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** **

 

** **

**UNITEDSTATES**

**SECURITIESAND EXCHANGE COMMISSION**

**Washington, D.C.  20549**

 

**FORM 10-K/ANumber 1**

 

**x**** ****ANNUAL REPORT PURSUANT TOSECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934**

 

**For the fiscal year ended December 31,2007**

** **

**OR**

 

**o****  ****TRANSITION REPORT PURSUANT TOSECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934**

 

**For the transition period from                to                .**

 

**Commission File No. 001-33601**

 

**GlobalSCAPE, Inc.**

(Exact name of registrant as specified in itscharter)

 

| **Delaware**                                                    | ** ** | **74-2785449**                       |
|-----------------------------------------------------------------|------------|--------------------------------------|
| (State or other jurisdiction of  incorporation or organization) |       | (I.R.S. Employer Identification No.) |
|                                                            |       |                                 |
| **4500 Lockhill-Selma, Suite 150**                         | ** ** | ** **                           |
| **San Antonio, Texas**                                          | ** ** | **78249**                            |
| (Address of Principal Executive Office)                         |       | (Zip Code)                           |

 

**(210) 308-8267**

(Registrant’s Telephone Number, IncludingArea Code)

 

Securities registered pursuant to Section 12(b) ofthe Act:

 

**Common Stock, par value $0.001 per share**

(Title of Class)

 

Securities registered pursuant to Section 12(g) ofthe Act:

**None**

 

Indicate by check mark if theregistrant is a well-known seasoned issuer, as defined in Rule 405 of theSecurities Act.

o Yes   x No

 

Indicate by check mark if theregistrant is not required to file reports pursuant to Section 13 or Section 15(d) ofthe Act.

o Yes   x No

 

Indicate by check markwhether the registrant (1) has filed all reports required to be filed by Section 13or 15(d) of the Securities Exchange Act of 1934 during the preceding 12months (or for such shorter period that the registrant was required to filesuch reports), and (2) has been subject to such filing requirements forthe past 90 days.

x Yes   o No

 

Indicateby check mark if disclosure of delinquent filers pursuant to Item 405 ofRegulation S-K (§ 229.405 of this chapter) is not contained herein, and willnot be contained, to the best of registrant’s knowledge, in definitive proxy orinformation statements incorporated by reference in Part III of this Form 10-Kor any amendment to this Form 10-K.  o

 

Indicate by check mark whether theregistrant is a large accelerated filer, an accelerated filer, anon-accelerated filer or a smaller reporting company.  See definition of “acceleratedfiler”, “large accelerated filer” and “smaller reporting company” in Rule 12b-2of the Exchange Act (check one):

 

| Large Accelerated filer o                     |   | Accelerated filer o         |
|-----------------------------------------------|--------|-----------------------------|
|                                          |   |                        |
| Non-Accelerated filer o                       |   | Smaller Reporting Company x |
| (Do not check if a smaller reporting company) |   |                        |

 

Indicate by check mark if theregistrant is a shell company (as defined in Rule 12b-2 of the Act).

o Yes    x No

 

The aggregate market value ofthe registrant’s outstanding common stock held by non-affiliates wasapproximately $33,192,000 as of the last business day of the registrant’s mostrecently completed second fiscal quarter, based upon the closing sales price of$2.69 per share on such date on the American Stock Exchange.

 

As of March 14, 2008there were 17,024,711 shares of common stock outstanding.

 

**Documents Incorporated by Reference**

** **

Portions of the Registrant’s Proxy Statementfor the 2008 Annual Meeting of Stockholders to be held on June 4, 2008,are incorporated by reference in Part III hereof.

 

 

 

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Explanatory Note:

 

GlobalSCAPE, Inc.is filing this Amendment No. 1 to its Annual Report on Form 10-K forthe year ended December 31, 2007, which was originally filed with theSecurities and Exchange Commission on March 27, 2008 (“Original Form 10-K”),to amend Item 1A “Risk Factors,” Item 6 “Selected Financial Data,” Item 7 “Management’sDiscussion and Analysis of Financial Condition and Results of Operations” (“MD&A”),Item 8 “Financial Statements and Supplementary Data,” Item 9A “Controls andProcedures,” and Item 15 “Exhibits and Financial Statement Schedules.”Additionally, the Registrant added Note 12 regarding the restatement of theRegistrant’s financial statements and revised Note 6.

 

Asdiscussed in Note 1 to the Financial Statements, on August 15, 2008,GlobalSCAPE and its Board of Directors, after consultation with GlobalSCAPE’sindependent registered public accounting firm, concluded that GlobalSCAPE wouldamend its Annual Report on Form 10-K for the year ended December 31,2007 and restate its financial statements and financial information for theyear ended December 31, 2007. The restatement adjustments correct federalincome tax receivable, goodwill, deferred tax assets and liabilities, equity,and the income tax provision for the year ended December 31, 2007.  The errors wer caused by the Company’sfailure to accurately identify incentive stock options an d track the sales ofstock by its employees who had exercised options and subsequently sold sharesof the Company’s common stock; and the Company’s failure to calculate deferredtaxes on identified intangible assets acquired as part of the 2006 purchase ofAvaill, Inc.  The errors have beencorrected.  As a result of therestatement federal income tax receivable has increased by $817,343, deferredtax assets have decreased by $360,588, equity increased by $502,438 and incometax provision has increased by $280,242 related to the correct calculation ofthe tax effect on the exercise of employee stock options and the subsequentsale of shares of stock. Goodwill and deferred tax liability increased by$1,796,320 and $1,750,637, respectively related to the correct calculation ofdeferred taxes on identified intangible assets related to the Availlacquisition.

 

Forthe convenience of the reader, this Form 10-K/A sets forth the Original Form 10-K,as amended hereby, in its entirety. However, this Form 10-K/A amends andrestates only Items 1A, 6, 7, 8, 9A, and 15 of the Original Form 10-K, ineach case solely as a result of and to reflect the adjustments discussed aboveand more fully in Note 1 of the accompanying financial statements, and no otherinformation in the Original Form 10-K is amended hereby.

 

Asrequired by Rule 12b-15 under the Securities Exchange Act of 1934, as amended,new certifications by GlobalSCAPE’s principal executive officer and principalfinancial officer are being filed with this Form 10-K/A as Exhibits 31.1, and32.1. In addition, Exhibit 23.1 has been amended to contain a currently-datedconsent of independent registered public accounting firms.

 

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**TABLEOF CONTENTS**

 
| ** **        | ** **                                                                                                  | **Page** |
|-------------------|-------------------------------------------------------------------------------------------------------------|----------|
| **PART I**   |                                                                                                        |
|              |                                                                                                        |     |
| Item 1.           | Business                                                                                                    | 1        |
|              |                                                                                                        |     |
| Item 1A.          | Risk Factors                                                                                                | 8        |
|              |                                                                                                        |     |
| Item 1B.          | Unresolved Staff  Comments                                                                                  | 15       |
|              |                                                                                                        |     |
| Item 2.           | Properties                                                                                                  | 15       |
|              |                                                                                                        |     |
| Item 3.           | Legal Proceedings                                                                                           | 15       |
|              |                                                                                                        |     |
| Item 4.           | Submission of  Matters to a Vote of Security Holders                                                        | 15       |
|              |                                                                                                        |     |
| Item 4A.          | Executive  Officers of the Company                                                                          | 16       |
|              |                                                                                                        |     |
| **PART II**  | ** **                                                                                                  |
|              |                                                                                                        |     |
| Item 5.           | Market for  Registrant’s Common Equity and Related Stockholder Matters and Issuer  Purchases of Equity | 17       |
|              |                                                                                                        |     |
| Item 6.           | Selected Financial  Data                                                                                    | 17       |
|              |                                                                                                        |     |
| Item 7.           | Management’s  Discussion and Analysis of Financial Condition and Results of Operation                  | 18       |
|              |                                                                                                        |     |
| Item 8.           | Financial Statements  and Supplementary Data                                                                | 27       |
|              |                                                                                                        |     |
| Item 9.           | Changes in and  Disagreements with Accountants on Accounting and Financial Disclosure                       | 49       |
|              |                                                                                                        |     |
| Item 9A.          | Controls and  Procedures                                                                                    | 49       |
|              |                                                                                                        |     |
| Item 9B.          | Other Information                                                                                           | 50       |
|              |                                                                                                        |     |
| **PART III** | ** **                                                                                                  |
|              |                                                                                                        |     |
| Item 10.          | Directors, Executive  Officers and Corporate Governance                                                     | 50       |
|              |                                                                                                        |     |
| Item 11.          | Executive Compensation                                                                                      | 51       |
|              |                                                                                                        |     |
| Item 12.          | Security  Ownership of Certain Beneficial Owners and Management and Related Stockholder  Matters            | 51       |
|              |                                                                                                        |     |
| Item 13.          | Certain Relationships  and Related Transactions, and Director Independence                                  | 51       |
|              |                                                                                                        |     |
| Item 14.          | Principal Accountant  Fees and Services.                                                                    | 51       |
|              |                                                                                                        |     |
| **PART IV**  | ** **                                                                                                  |
|              |                                                                                                        |     |
| Item 15.          | Exhibits, Financial  Statement Schedules                                                                    | 52       |
|                   |                                                                                                             |          |  |

 

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**PreliminaryNotes**

 

GlobalSCAPE®, CuteFTP®, CuteFTP Pro®,CuteMx®, CuteSITE Builder®,PureCMS®, CuteZIP®,CuteHTML® andCuteMAP® areregistered trademarks of GlobalSCAPE, Inc. GlobalSCAPE Secure FTP ServerTM, GlobalSCAPETransfer EngineTM, and GlobalSCAPE Enhanced File TransferServerTM aretrademarks of GlobalSCAPE, Inc.  Other trademarks and tradenames inthis Annual Report are the property of their respective owners.

 

In this report, we use thefollowing terms:

 

“HTTP” or Hyper TextTransfer Protocol is a protocol commonly used to transfer hypertext documentsbetween a web server and a web browser.

 

“S/Key” is a security systemin which a one-time challenge-response password scheme is used to authenticateaccess to data.  The purpose of S/Key isto eliminate the need for the same password to be sent over a network each timea password is needed for access.

 

“SSH2” or Secure Shell is aprotocol that provides encrypted network communications between two computers.

 

“SSL” or Secure Socket Layeruses cryptography to encrypt data between the web server and the web browser.

 

**Forward-LookingStatements**

 

This AnnualReport on Form 10-K and the documents incorporated by reference hereincontain “forward-looking statements” within the meaning of Section 27A ofthe Securities Act of 1933, as amended, and Section 21E of the Securitiesand Exchange Act of 1934, as amended.  “Forward-lookingstatements” are those statements that are not of historical fact, but describemanagement’s beliefs and expectations. We have identified many of the forward-looking statements in this AnnualReport by using words such as “anticipate,” “believe,” “could,” “estimate,” “may,”“expect,” and “intend.”  Although webelieve these beliefs and expectations are reasonable, our operations involve anumber of risks and uncertainties, including those described in the “RiskFactors” section of this Annual Report and other documents filed with theSecurities and Exchange Commission. Therefore, GlobalSCAPE’s actual results could differ materially fromthose discussed in this Annual Report.

 

PART I

 

## **Item 1.**    Business

 

### **Company Overview**

 

We develop anddistribute secure managed file transfer, or MFT, software for individuals andbusiness users to safely send files over the internet. We have also developedWide-Area File System, or WAFS, collaboration and Continuous Data Protection,or CDP, software which further enhance the ability to share and backup fileswithin the infrastructure of a company’s wide and local area networks, or WANand LAN at WAN and LAN speeds.  Our MFTproducts ensure the privacy of critical information such as financial data,medical records, customer files and other similar documents.  In addition, these products ensure compliancewith government regulations relating to the protection of information whileallowing users to reduce IT costs, increase efficiency, track and audittransactions and automate processes.  OurWAFS and CDP products provide data replication, acceleration of file transfer,sharing/collaboration and continuous data backup and recovery to ourcustomers.  We believe that we areuniquely positioned to provide secure transfer, sharing, and replication offiles that need to be transmitted inside the user’s firewall to distributedoffices, or outside the user’s firewall to business and trading partners.

 

Our initial product,CuteFTP, a file transfer protocol client program used mostly by individuals andsmall businesses, was first distributed in 1996 over the internet and hasachieved significant success and popularity. We built on this success by steadily adding complementary products suchas the enterprise versions of our file transfer programs, Secure FTP Server andEnhanced File Transfer Server, and establishing an internal sales organizationand reseller network. We believe we now have a reputation as a provider ofeasy-to use, affordable file transfer and collaboration software forindividual, small business and enterprise users.  Since 2000, we have focused on enhancing ourportfolio of products to meet the increasing demand for data security,overcoming the challenges of latency and bandwidth limitations for supportingbranch offices and geographically distributed locations, allowing enterprisesto backup data across their LAN and WAN as changes are made, and offeringsolutions that permit non-technical personnel to contribute content to theirorganizations’ 

 

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Websites.  Our software is used worldwideacross a wide range of industries. Through the end of 2007, we had distributed over 1.9 million softwarelicenses to our customer base which includes individual consumers, small tomedium-sized businesses, as well as some of the largest corporations in theworld.

 

**Recent Developments**

 

In March 2008,we announced the retirement of our President and Chief Executive Officer,Charles R. Poole. During the fall of 2007, the Board of Directors beganhaving discussions with Mr. Poole, relating to his potential retirement orreduction in his day-to-day role at December 31, 2008, when his currentcontract expires, and the necessary steps for succession of the CEO position.At this time, the Board also began focusing on some longer-term projectsdesigned to continue the Company’s growth and profitability. We believe thatthe future success of our business will be dependent upon our ability toimprove our current products and to introduce new products, through researchand development, innovations by our employees, strategic partnerships, andacquisitions.  As a result of the longer term nature of theBoard’s areas of focus for 2008 and Mr. Poole’s wishes, it became apparentto the Board that that it would be in the best interest of the Company and itsshareholders that Mr. Poole not spearhead our more product-focusedinitiatives if he were not available to see them through implementation. As aresult, on March 7, we accepted Mr. Poole’s decision to retire early.Kelly E. Simmons, our CFO, was named interim President and we began toaccelerate the search for Mr. Poole’s replacement.

 

**Industry Background**

 

The internethas become an integral part of operations for companies of all sizes, not onlyfor e-commerce, but also as a means of managing information between central andremote locations and with employees, partners and suppliers.  Corporate information managers must protectbusiness assets, ensure that policies and processes meet regulations governingthe management of sensitive information, and ensure that the right people haveaccess to the right information at the right time.  Global operations, diverse business partnersand networks further emphasize the need for common standards to ensurecompatibility, scalability and cost-effective integration.

 

Organizationsthat use the internet for data transfer are also faced with a daunting array ofsecurity challenges stemming from various regulatory and business requirementsfor data privacy and confidentiality. Regulatory and privacy requirements include legislation such as theHealth Insurance Portability and Accountability Act (HIPAA), California SenateBill (SB) 1386, and the Gramm-Leach-Bliley Act (GLBA) in the US, and theEuropean Union’s Privacy Directive, some of which impose severe penalties forimproper disclosure of confidential information.  Additionally, industry best-practices andself-imposed business requirements include intellectual property and tradesecrets protection and controls regarding disclosure of proprietary informationto minimize corporate risk from the devastating consequences of securitybreaches.  As corporate Web operationsmature, we believe we will see an increasing demand for solutions to facilitatesecure file transfers on the internet and for products that provide datareplication, acceleration of file transfer, sharing/collaboration andcontinuous data backup and recovery.

 

### **Products**

### ** **

Our productsinclude Windows®-based,Mac based, browser-based and server software applications.

 

**FTP Client Programs**

 

File transferprotocol, or FTP, is the language used for file transfers from computer tocomputer across the internet.  FTP ismost commonly used to download a file from a server using the internet or toupload a file to a server.

 

***CuteFTP*.**  CuteFTP is a “client-side” program, meaning thatit permits a user to request a file from or send a file to an FTP server orhost computer.  The user base for thisprogram ranges from corporate IT professionals who use it to transfer databetween locations via the internet, to individual Web site operators who use itto upload their Web pages to their Web hosting provider.  CuteFTP simplifies use of file transferprotocol by hiding the technical processes behind a user-friendly, graphicalinterface, which allows users to “drag `n drop” files between computers.CuteFTP has won several awards, including the CNet Editors’ Choice award, andhas been favorably reviewed in leading online and print trade journals such asPC Magazine, WindowsNT, Yahoo Internet Life, CNet’s Download.com and Tucows, asbeing the most powerful, easy-to-use file transfer protocol programavailable.  We offer CuteFTP in German,French, Spanish, Japanese and Traditional and Simplified Chinese.  CuteFTP was first released in February 1995by its original author, and was first distributed as a commercial product byGlobalSCAPE in April 1996.  In October 2003,GlobalSCAPE released CuteFTP Mac, our easy-to use FTP client for the Macintoshoperating system.  CuteFTP Macincorporates many of the popular features of CuteFTP for Windows, whileadhering to Apple’s Aqua® interface and usability guidelines.

 

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***CuteFTP Pro*.**  CuteFTP Pro is a secure FTP client programdesigned for advanced users and information technology professionals.  CuteFTP Pro incorporates standards forencrypting data during transport and at rest, accelerating transfer of largefiles, and automating common file transfer tasks. It includes various featuresattractive to advanced users such as multi-part and concurrent file transfersto maximize transfer speed, scheduled file transfers, automated site backupsand scripting ability for automating FTP tasks. CuteFTP Pro has been favorably reviewed by leading online publicationsincluding CNet’s Download.com, ZDNet and PC Review.  CuteFTP Pro was released in March 2001and CuteFTP MAC Pro was released in April 2004.

 

**File Transfer Servers**

 

FTP transfersrequire two software programs: a client program to start a transfer and aserver to accept the connection. Our file transfer server programs are designedto provide business with increased security and speedier file transport whencompared to e-mail.

 

***Secure FTP Server*.**  Secure FTP Server complements CuteFTP Pro andother professional FTP clients by enabling encrypted transfers using SSL, SSH2and advanced S/KEY password encryption. When used with CuteFTP Pro, Secure FTP Server offers a complete digital certificatemanagement system, giving system administrators the ability to create, sign,import, export and add digital certificates, as well as kick off back-endprocesses.  The latter functionality canbe used as a partial or total replacement for more complex enterprise-levelelectronic data interchange systems, or (EDI). Additional features include full remote management capability, theability to operate multiple FTP sites with unique directory structures from asingle server and manage user accounts with advanced restriction settings for maximumsecurity and control.  Secure FTP Serverhas been favorably reviewed by leading online publications including ServerWatch and File Forum.  GlobalSCAPE SecureFTP Server was first released in January 2002.

 

***Enhanced FileTransfer Server. ***EnhancedFile Transfer Server,  EFT, is anenterprise file server, building on the base features of Secure FTP Server byproviding digital certificate management, multiple secure protocols, remoteadministration, flexible authentication choices, extensive automation andadvanced security options. The latest version, EFT Server 5, helps customersachieve regulatory compliance with Payment Card Industry, or PCI, Data SecurityStandard, or DSS, by providing hardened security settings and compliancereporting options. EFT also offers modules that can be integrated into the basesoftware such as DMZ Gateway, which provides a multi-tiered security solutionfor traversing network walls; OpenPGP, a dual-key encrypted storage solution;Secure Ad-Hoc, which is an alternative solution to e-mail for sending largefile attachments; and auditing and reporting of server transactions.

 

**Data Replication Products**

 

Businesseswith multiple locations have a need to access data in a timely, efficientmanner and to be able to move and share data throughout theirorganizations.  Our data replicationproducts allow users to maintain and synchronize their live data files inmultiple remote server locations and to restore data to any point in time.

 

***Wide Area File System (WAFS)****.*  Our Wide Area FileSystem product delivers a unified and accelerated file access system, instantfile-sharing and server-to-server mirroring across any distance, with fullcoherency and at LAN access speeds.  WAFSdelivers a true wide area file solution for any distance, and any number andany complexity of files.  Continuous,real-time multi-directional acceleration and mirroring technology ensures thatdata exists in multiple places simultaneously and in complete synchronization, nomatter where a change in any file is made. The data mirrors between servers on the LAN, virtual private network, orVPN, or crossing firewalls in real time.  In addition, users can leverage file locking capabilitiesacross the LAN and WAN. Our WAFSensures bandwidth efficient WAN utilization; that users have access to the mostrecent data.  The off-line mode ensurescontinued data access in the event of WAN or server outage.  Our WAFS software is easy to deploy and manageremotely.

 

***CDP****.*  Our continuousbackup software inexpensively delivers true real-time continuous dataprotection.  Our software-only solutionsupports the ability to backup any number of branch servers or remote laptopsto one or more centrally located systems.  CDP transparently and continuously captures data from local and remoteservers, eliminating the backup window and restoring data rapidly. Bandwidthrequirements are minimal since only file differences are transferred to thebackup system.

 

***Enterprise****.*  Enterprise isdesignated for companies that need both WAFS or multi-directional mirroring andreal-time backup.  It includes all thefeatures of the entire WAFS and CDP product line.

 

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**Internet Products**

 

We offer a variety of software products thatcan be purchased and downloaded directly from our automated website.  These products range in price from $3.99 to$249.00 for a single license.  Theseproducts are easy to install and use, making them good products to attractusers to our website.

 

**Maintenanceand Support**

** **

We offermaintenance and support contracts for all of our products which includescontent, upgrades and technical support. Standard technical support islimited to the reporting and correction of product defects and installation andconfiguration assistance. CuteFTP, EFT Server, and Secure Server support isavailable 8:00 AM to 6:00 PM US Central Time, Monday-Friday, excluding major USholidays. WAFS and CDP support is available 8:00 AM to 5:30 US Eastern Time,Monday-Friday, excluding major US holidays.

 

### **Strategy**

### ** **

Our goal is to build uponour successful market position in FTP, WAFS and CDP, to provide business userswith secure and efficient solutions for their growing file access, filetransfer, and data replication and protection needs.  For example, in 2007, we introduced upgradesto EFT 5.0,  CuteFTP 8.0, the Secure AdHoc Transfer module, and the HS-PCI module ensuring compliance with DSS.   We continue to enhance and develop highquality, affordable software that enables organizations and individuals toeasily create, move and manage Web and file-based data in a secure,collaborative environment.  We havesuccessfully established a brand in the market for internet softwareproductivity tools with our file management products, CuteFTP and CuteFTPPro.  We believe that our continuedgrowth will come not only through the further development of our SecureFTPServer and Enhanced File Transfer products and the growing demand for filesecurity when transferring information across the internet, but also throughthe aggressive sales and marketing of our WAFS and CDP products, which webelieve represent two high growth markets. Based upon estimates by Gartner, Inc., and other consulting groupsin our markets, we believe that the WAN optimization/WAFS market is currently$300 million annually and growing at 20% - 30% per year, and the CDP market isof similar size but in the early stages of adoption and growing rapidly.  In addition, we believe that the WAFS and CDPproducts are highly complementary to our traditional Secure File Transferproducts facilitating cross sales and new customer penetration.

 

GlobalSCAPE believes thatour products represent a low cost solution for businesses for their access,secure file transfer, and data replication and protection requirements becausewe do not require the purchase of a whole suite of products. Our Secure FTPServer, Enhanced File Transfer, WAFS and CDP products offer modules to form thecomprehensive solutions needed by businesses to solve their particular needs.Maintenance and support agreements are purchased with most of our higher-endserver products by businesses. We will also continue to market our contentmanagement solutions that help non-technical professionals manage theirorganization’s Web sites without reliance on information technologyprofessionals.

 

Key elements of our strategyare:

 

***Continue to enhance and develop our products. ***Corporate and individual users are increasingly concerned with securityand data replication and protection.  Wehave added the EFT enterprise solution to our product line for businesses tomeet the needs of security issues when transferring files in and out of theirservers across the internet and we acquired Availl in 2006 in order to offercustomers a data replication and protection solution. We believe thatthe future success of our business will be dependent upon our ability toimprove our current products and to introduce new products, through researchand development, innovations by our employees, strategic partnerships, andacquisitions. We intend to acceleratethe development and improvement of our current products throughout 2008 to meetthe demand for file transfer security and data replication and protectionthrough Enhanced File Transfer Server, WAFS and CDP and to consumers andsmaller businesses through our other well known FTP products, CuteFTP Home andCuteFTP Professional and Secure FTP Server.

 

***Pursue strategic product and acquisition opportunities*****.**  Wewill continue to look for opportunities to develop, acquire or add synergisticproducts or technologies that enhance the success of these products.  In 2005, we added modules and furtherdeveloped our Secure FTP Server and EFT products.  In September 2006, we acquired Availlwhich allowed us to add our WAFS and CDP products. We continue to seekpotential acquisitions and strategic patnerships.

 

***Continue to develop a more robust reseller channel*****.** During 2007, we continued our emphasis on the development of third partyreseller channels by hiring sales people with reseller sales backgrounds anddeveloping relationships with new resellers. In particular, we attempt to reach“value-added” resellers such as system design consultants. 

 

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Webelieve sales will be significantly enhanced if we are able to recruit numerousresellers who have existing relationships with prospective customers.

 

***Increase our maintenance and support business***. Maintenance and support contracts are an important part of our productoffering for our Enhanced File Transfer Server, WAFS and CDP.  Our maintenance and support revenuesincreased by 171% from 2005 to 2006, and 112% from 2006 to 2007.

 

***Develop internal sales staff****.*  During 2007, we continued the development ofour internal direct sales force to better sell more complex products, such asEnhanced File Transfer, Secure FTP Server, WAFS and CDP. We intend to continueto develop our sales staff through additional employees, further training andcertification.

 

***Continue to develop online marketing capabilities****. *We believe we havesignificant expertise in driving online sales via online marketing activities,including product placement on third party sites such as search engines andreferral sites, and electronic mail campaigns. This type of sales activity is particularly well suited to certain lowerpriced products because of the lower cost of sale.  We intend to continue to leverage ourestablished Web presence to drive online sales as well as supporting direct andreseller sales efforts.

 

**Sales and Marketing**

 

Since 2003, wehave increased our emphasis on developing our internal sales staff and resellerchannels to capture those sales that require personal attention, such as salesof our more complex products Enhanced File Transfer Server, WAFS and CDP, salesto larger enterprises and sales of maintenance and support contracts. Werequire training, testing and professional development of our sales people toinsure that they are capable of meeting the needs of our customers.

 

We also sellour FTP Client Programs, Secure FTP Server and our internet products viadownload from our Web site, **www.globalscape.com**.  Prospective buyers may use our softwareproducts free during an evaluation period of up to thirty days.  The programs are automatically disabled if alicense is not purchased by the end of the trial period.  Our current products typically range in pricefrom $39.99 to $2,400 per license.  Priorto 2006, the majority of our software sales had been made online using a creditcard.  While we continue to sell productsover the internet, this has become a less important sales channel as we havegrown our internal sales organization and reseller network.  Our software is also available for downloadfrom a variety of independent internet software sites such as CNet’sDownload.com, as well as sites in Western Europe, Canada, Australia, andAsia.  We distribute a limited number ofcopies on CD in Fry’s and Micro Center stores in the United States and throughnumerous international resellers.  Weprovide free customer support via a searchable knowledge base on our Web siteand sell “live” support and maintenance packages.

 

### **Customers**

### ** **

We had onecustomer, the Army Contracting Agency ITEC4, whose purchase of $2.8 milliondollars accounted for 14.5% of our sales in 2007. The order was comprised ofSecure FTP Server with SSH Add On module, CuteFTP Pro, and the associatedmaintenance and support covering first year installations. While the purchaseof the product would not be recurrent in the same volume, first yearmaintenance and support will increase until all software installations have beencompleted and thereafter in the form of renewals.

 

### **Seasonality**

### ** **

Our products are marketed to individuals aswell as large organizations. As a result of this mix within ourcustomer base, we did not experience seasonality in our sales during 2007, nordo we expect seasonality to have a significant impact on sales in 2008.

 

### **Network and Equipment**

### ** **

We havecontracted with various network providers for internet access.  Our arrangements provide for redundancy inthe event of a failure, and also for rapid expansion of available bandwidth inthe event that there is a dramatic increase in demand.  To protect critical customer data,GlobalSCAPE’s secure server utilizes Secure Sockets Layer encryption.  We have dedicated servers on and off site andexpansion plans in place to allow rapid and cost effective scalability.

 

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### **Research and Development**

### ** **

Our internalsoftware engineers are responsible for software design, managing thedevelopment process, testing and quality assurance.  We utilize offshore developers for a largeportion of the coding phase of software development.  All phases of development, including scopeapproval, functional and implementation design, object modeling andprogramming, are subject to internal quality assurance testing.  Our use of external developers allows us totap into a highly skilled labor pool, maintain a 24-hour development schedule,decrease time to market, and minimize programming costs.

 

For the years2005, 2006 and 2007, GlobalSCAPE spent approximately $869,155, $1,230,400 and$1,919,253,  respectively, on researchand development, all of which were expensed. We expect to increase our researchand development spending in 2008 as we focus on improving our current productsand introducing new products.

 

### **Competition**

### ** **

The filemanagement, content management and Web development software market sectors areintensely competitive, subject to rapid change and are significantly affectedby new product introductions and other activities of market participants.  Our primary competitors vary by product andare listed below.

 

***CuteFTP*.**  CuteFTP exists in a highly competitiveenvironment with several hundred FTP software utilities available on theinternet.  We believe our primarycompetitors are WS_FTP from Ipswitch, Inc. and FTP Voyager by RhinoSoftware, Inc.  CuteFTP was thesecond Windows-based FTP client to market and is consistently the mostfrequently downloaded FTP client on popular download sites.  CuteFTP Mac, our FTP client for the Macintoshplatform, competes with Fetch, by Fetch Softworks, Interachry, by Stairways Software Pty Ltd., and Transmit FTP,by Panic Inc.

 

***CuteFTP Pro*.**  CuteFTP Professional competes in the higherend of the same market as CuteFTP, targeting the security-minded ITprofessional.  CuteFTP Professional ispositioned as one of the only secure FTP client programs that support a widerange of security standards related to the FTP protocol.  Competitors in the general FTP market offerproducts that support a smaller subset of these security standards and addressa narrower segment of the secure FTP market. Competitors include Van Dyke, Inc., Ipswitch, Inc., and RhinoSoftware, Inc.

 

***Secure FTP Server***.  Secure FTP Server competes against a limitednumber of secure Windows-based FTP servers. We believe our primary competitors are WS_FTP Server and Serve-U.  Secure FTP Server has the advantage ofleveraging the success of CuteFTP Pro through product integration, offeringproprietary extensions to the FTP protocol, and cross-marketing efforts to anexisting customer base.

 

***Enhanced FileTransfer Server. ***EnhancedFile Transfer Server competes in the managed file transfer server market.  We believe our primary competitors areTumbleweed, Sterling, Proginet, and SSH’s Tectia.  Enhanced File Transfer Server has theadvantage of being very cost effective in its market while leveraging andextending the security and file management features of our other FTP products.

 

***WAFS. ***WAFS competes in the Wide Area FileSystem/Storage market.  We believeour primary competitors are Riverbed, Packeteer and Cisco, who are deliveringproprietary based appliances.  Webelieve that WAFS has the advantage of being a software only solution whichleverages corporate infrastructure and minimizes the total cost of ownership.

 

***CDP. ***Continuous Data Protection competes in thehighly competitive CDP market.  Webelieve our primary competitors are CA XOsoft, Doubletake andSymantec/Veritas.  We believe that CDPhas the advantage of transparently and continuously capturing data from localand remote servers, eliminating the backup window and restoring data rapidly.

 

***CuteHTML*.**  CuteHTML exists in a highly competitive environmentwith approximately one hundred text-based HTML editors.  CuteHTML’s competition includes HomeSite fromAllaire, Inc.  CuteHTML’s advantageis that it doesn’t add extraneous code to Web pages, an attribute preferred bymany professional Web masters.

 

***CuteHTML Pro***.  CuteHTML Pro faces heavy competition fromvisual or “WYSIWYG” editors such as Front Page, by Microsoft, Dreamweaver, byMacromedia Inc, and competition from other direct editors*,*such as Homesite, also by MacromediaInc.  CuteHTML Pro’s advantage is itsappeal to professional Webmasters who typically shun visual editors in favor ofthe extra features and added control provided by direct editors such asCuteHTML Pro.

 

***CuteMAP*.**  CuteMAP competes against approximately 65image-mapping utilities, which exist in a niche market.  Primary competitors include CoffeeCup ImageMapper, Ulead Smart Saver and MapEdit. CuteMAP has the advantage of 

 

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being able to leverage the success of CuteHTML through productintegration and cross-marketing efforts to an existing customer base.

 

***CuteZIP*.**  CuteZIP exists in the highly competitive filecompression utility market, competing against several hundred file compressionutilities.  Its main competitors includeWinZIP, the current market leader, and NetZIP. CuteZIP’s main advantage is that it is one of the only compressionutilities offering 128-bit encryption to secure compressed files.  In addition, users can create self-extractingencrypted archives that recipients may open even if they don’t have a ziputility installed.

 

We havelimited information regarding our products’ market shares in their respectivecategories.  Many of our competitors havesubstantially greater financial, technical, sales, marketing, personnel, andother resources, as well as greater name recognition and a larger customer basethan we do.  Significant competitioncharacterizes the markets for our products and we anticipate that we will faceincreasing pricing pressures from competitors in the future.  Moreover, given that there are low barriersto entry into the software market, and the market is rapidly evolving andsubject to rapid technological change, we believe that competition will persistand intensify in the future.  We haveexperienced price declines on some products over the last several years.  A reduction in the price of our productswould negatively affect gross margins as a percentage of net revenues, andwould require us to increase software unit sales, in order to maintain netrevenues at existing levels.  For morediscussion on the risks associated with our competition, you should read theinformation under “Risk Factors — Risks Related to Operations.”

 

### **Governmental Regulation**

### ** **

All of ourproducts are subject to U.S. export control laws and applicable foreigngovernment import, export and/or use requirements. Minimal U.S. exportrestrictions apply to all products, whether or not they perform encryptionfunctions.

 

The ExportAdministration Regulations of the U.S. Department of Commerce regulate theexport of most commercial products with encryption features. Under regulationsissued by the Department of Commerce in January 2000, encryption productsof any key length may be exported, after a one-time technical review, tonon-governmental end-users around the world, except for embargoed countries andspecific prohibited end-users. Encryption products may be exported togovernmental end-users under special Encryption Licensing Arrangements orindividual export licenses that may be issued at the discretion of theDepartment of Commerce. In October 2000, the Department of Commercefurther revised the Export Administration Regulations to relax some reportingrequirements and to remove the export licensing requirement for shipments togovernmental end-users in 23 countries, including most of the United States’major trading partners. In June 2002, the Department of Commerce amendedthe encryption regulations again to conform them to the control listsimplemented by other countries that are also members of the WassenaarArrangement. We believe that we have completed the necessary technical reviewsof the products and services we currently export, but new products that weacquire or develop may require technical review before we can export them. Forthe export of some of our products, we are subject to various post-shipmentreporting requirements.

 

The changes tothe export regulations allow our products to be exported more quickly and withmore strength and, therefore, be more competitive with products from foreignproducers. However, the export regulations may be modified at any time. Inlight of the ongoing discussions regarding anti-terrorism legislation in theU.S. Congress, there may be an increased risk that export regulations may bemodified in the future. Modifications to the export regulations could reduce oreliminate our ability to export some or all of our products from the U.S. withouta license in the future, which could put us at a disadvantage in competing forinternational sales compared to companies located outside of the U.S. thatwould not be subject to these restrictions.

 

### **Intellectual Property**

### ** **

We regard someof the features of our internal operations, software, and documentation asproprietary and rely on copyright, patent, trademark and trade secret laws,confidentiality procedures, contractual arrangements, and other measures toprotect our proprietary information. Our intellectual property is an importantand valuable asset that enables us to gain recognition for our products,services, and technology and enhance our competitive position.

 

As part of ourconfidentiality procedures, we generally enter into non-disclosure agreementswith our employees, distributors, and corporate partners, and we enter intolicense agreements with respect to our software, documentation, and otherproprietary information. These license agreements are generallynon-transferable and have a perpetual term. We also educate our employees ontrade secret protection and employ measures to protect our facilities,equipment, and networks.

 

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Ourtrademarks, copyrights and technology are central to our business.  We protect our intellectual property rightsthrough a combination of licenses, trademarks, service marks, copyrights, tradesecret laws and restrictions on disclosure.

 

We have U. S.federal trademark registrations for GlobalSCAPE, CuteFTP, CuteFTP Pro, CuteMx,PureCMS, CuteHTML, CuteZIP, CuteMAP, CuteSITE Builder and design,SnapEdit and pending U. S. federal trademark applications for Availl andEnhanced File Transfer Services.  We haveobtained twenty-nine United States copyright registrations for all but the mostrecent versions of our software applications, and have applied for registrationfor the most recent versions.

 

We seek toprotect our software, documentation and other written materials under tradesecret and copyright laws, which afford only limited protection.  Despite our efforts to protect ourproprietary rights, unauthorized parties may attempt to copy aspects of ourproducts or to obtain and use information that we regard as proprietary.  Policing unauthorized use of our products isdifficult, and while we are unable to determine the extent to which piracy ofour software products exists, software piracy can be expected to be apersistent problem.  In selling ourproducts, we rely primarily on click-wrap licenses that are not signed bylicensees, and may be unenforceable under the laws of certainjurisdictions.  In addition, the laws ofsome foreign countries do not protect our proprietary rights to as great anextent as do the laws of the United States. In addition, the number of patents applied for and granted for softwareinventions is increasing.  Consequently,there is a growing risk of third parties asserting patent claims against us. Wehave received, and may receive in the future, communications from third partiesasserting that our products infringe, or may infringe, the proprietary rightsof third parties, seeking indemnification against such infringement orindicating that we may be required to obtain a license or royalty from suchthird parties.For more discussion on the risks associated with our intellectualproperty, you should read the information under “Risk Factors,” especially “RisksRelated to Legal Uncertainty.”

 

### **Employees**

### ** **

As of March 1,2008, we had 66 full-time and part-time employees organized within eightfunctional areas.  The employeedistribution according to function is as follows:

 
| **Department**                | ** ** | **Number of  Employees** | ** ** |
|-------------------------------|------------|-------------------------------|------------|
| Management and Administration |       | 9                             |       |
| Research and Development      |       | 10                            |       |
| Quality Assurance             |       | 6                             |       |
| Marketing                     |       | 4                             |       |
| Information Services          |       | 5                             |       |
| Professional Services         |       | 3                             |       |
| Sales                         |       | 17                            |       |
| Customer Support              |       | 12                            |       |
| Total                         |       | 66                            |       |

 

None of ouremployees are covered by collective bargaining agreements and we believe ouremployee relations are good.

 

### **Available Information**

### ** **

We fileannual, quarterly and current reports, proxy statements and other informationwith the Securities and Exchange Commission. You may read and copy any documentwe file with the SEC at the SEC’s public reference room at 100 F Street, NE, Room 1580,Washington, D.C. 20549. Please call the SEC at 1-800-SEC-0330 for informationon the public reference room. The SEC maintains an internet web site thatcontains annual, quarterly and current reports, proxy statements and otherinformation that issuers (including GlobalSCAPE) file electronically with theSEC. The SEC’s web site is www.sec.gov.Our Annual Report on Form 10-K,Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and otherreports and amendments filed with the Securities and Exchange Commission areavailable free of charge on our web site at www.globalscape.com in the InvestorRelations section as soon as practicable after such reports are filed.  Information on our website is notincorporated by reference into this Form 10-K and should not be consideredpart of this report or any other filing that we make with the SEC.

 

###### **Item 1A.  Risk Factors**

###### ** **

We havedescribed below risks that we are aware of that could have a material adverseeffect on your stock ownership and our business.

 

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**Risks Related to Operations**

 

***If we are unable to develop newand enhanced products and services that achieve widespread market acceptance,or if we are unable to continually improve the performance, features, andreliability of our existing products and services, our business and operatingresults could be adversely affected.***

 

Our future success dependson our ability to respond to the rapidly changing needs of our customers bydeveloping or introducing new products, product upgrades, and services on atimely basis.  We have in the pastincurred, and we believe that we will continue to incur, research anddevelopment expenses as we strive to remain competitive.  New product development and introductioninvolves a significant commitment of time and resources and is subject to anumber of risks and challenges including:

 

Managing the length of the development cycle for newproducts and product enhancements, which has frequently been longer than weoriginally expected.

 

Adapting to emerging and evolving industry standardsand to technological developments by our competitors and customers.

 

Extending the operation of our products and servicesto new platforms and operating systems.

 

Entering into new or unproven markets with which wehave limited experience.

 

Managing new product and service strategies, includingintegrating our various security and file replication technologies, managementsolutions, customer service, and support into unified enterprise security andfile replication solutions.

 

Incorporating acquired products and technologies.

 

Developing or expanding efficient sales channels.

 

Obtaining sufficient licenses to technology andtechnical access from operating system software vendors on reasonable terms toenable the development and deployment of interoperable products, includingsource code licenses for certain products with deep technical integration intooperating systems.

 

If we are not successful inmanaging these risks and challenges, or if our new products, product upgrades,and services are not technologically competitive or do not achieve marketacceptance, we could have expended substantial resources and capital withoutrealizing sufficient revenues in return, and our business and operating resultscould be adversely affected.

 

***Fluctuations in demand for ourproducts and services are driven by many factors and a decrease in demand forour products could adversely affect our financial results.***

 

We are subject tofluctuations in demand for our products and services due to a variety offactors, including competition, product obsolescence, technological change,budget constraints of our actual and potential customers, level of broadbandusage, awareness of security threats to IT systems, and other factors.  While such factors may, in some periods,increase product sales, fluctuations in demand can also negatively impact ourproduct sales.  If demand for ourproducts declines, our revenues and gross margin could be adversely affected.

 

***If we fail to manage our salesand distribution channels effectively or if our partners choose not to marketand sell our products to their customers, our operating results could beadversely affected***.

* *

We sell ourproducts to customers primarily through our direct sales force and throughresellers. Sales through these different channels involve distinct risks,including the following:

 

*Direct Sales.*  A significant portion of our revenues is derived from salesby our direct sales force to end-users. Special risks associated with thissales channel include:

 

Longer sales cycles associated with direct salesefforts.

 

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Difficulty in hiring, retaining, and motivating ourdirect sales force.

 

Substantial amounts of training for salesrepresentatives to become productive, including regular updates to cover newand revised products.

 

*Indirect Sales Channels.*  A significant portion of ourrevenues is derived from sales through indirect channels, includingdistributors that sell our products to end-users and other resellers. Thischannel involves a number of risks, including:

 

Our lack of control over the timing of delivery of ourproducts to end-users.

 

Our resellers and distributors are not subject tominimum sales requirements or any obligation to market our products to theircustomers.

 

Our reseller and distributor agreements are generallynonexclusive and may be terminated at any time without cause.

 

Our resellers and distributors frequently market anddistribute competing products and may, from time to time, place greateremphasis on the sale of these products due to pricing, promotions, and otherterms offered by our competitors

 

***Our products are complex and operate in a wide variety of computerconfigurations, which could result in errors or product failures.***

 

Because we offer verycomplex products, undetected errors, failures, or bugs may occur, especiallywhen products are first introduced or when new versions are released.  Our products are often installed and used inlarge-scale computing environments with different operating systems, systemmanagement software, and equipment and networking configurations, which maycause errors or failures in our products or may expose undetected errors,failures, or bugs in our products.  Ourcustomers’ computing environments are often characterized by a wide variety ofstandard and non-standard configurations that make pre-release testing forprogramming or compatibility errors very difficult and time-consuming.  In addition, despite testing by us andothers, errors, failures, or bugs may not be found in new products or releasesuntil after commencement of commercial shipments.  In the past, we have discovered softwareerrors, failures, and bugs in certain of our product offerings after theirintroduction and have experienced delayed or lost revenues during the periodrequired to correct these errors.

 

Errors, failures, or bugs inproducts released by us could result in negative publicity, product returns,loss of or delay in market acceptance of our products, loss of competitiveposition, or claims by customers or others. Many of our end-user customers use our products in applications that arecritical to their businesses and may have a greater sensitivity to defects inour products than to defects in other, less critical, software products.  In addition, if an actual or perceived breachof information integrity or availability occurs in one of our end-user customer’ssystems, regardless of whether the breach is attributable to our products, themarket perception of the effectiveness of our products could be harmed.  Alleviating any of these problems couldrequire significant expenditures of our capital and other resources and couldcause interruptions, delays, or cessation of our product licensing, which couldcause us to lose existing or potential customers and could adversely affect ouroperating results.

 

***We have grown, and may continueto grow, through acquisitions that give rise to risks and challenges that couldadversely affect our future financial results.***

 

We have in the pastacquired, and we expect to acquire in the future, other businesses, businessunits and technologies.  Acquisitionsinvolve a number of special risks and challenges, including:

 

·      Complexity,time, and costs associated with the integration of acquired businessoperations, workforce, products, and technologies into our existing business,sales force, employee base, product lines, and technology.

 

·      Diversionof management time and attention from our existing business and other businessopportunities.

 

·      Loss ortermination of employees, including costs associated with the termination orreplacement of those employees.

 

·      Assumptionof debt or other liabilities of the acquired business, including litigationrelated to alleged liabilities of the acquired business.

 

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·      Theincurrence of additional acquisition-related debt as well as increased expensesand working capital requirements.

 

·      Dilutionof stock ownership of existing stockholders, or earnings per share.

 

·      Increasedcosts and efforts in connection with compliance with Section 404 of theSarbanes-Oxley Act.

 

·      Substantialaccounting charges for restructuring and related expenses, write-off ofin-process research and development, impairment of goodwill, amortization ofintangible assets, and stock-based compensation expense.

 

If integration of ouracquired businesses is not successful, we may not realize the potentialbenefits of an acquisition or undergo other adverse effects that we currentlydo not foresee.  To integrate acquiredbusinesses, we must implement our technology systems in the acquired operationsand integrate and manage the personnel of the acquired operations.  We also must effectively integrate thedifferent cultures of acquired business organizations into our own in a waythat aligns various interests, and may need to enter new markets in which wehave no or limited experience and where competitions in such markets havestronger market positions.

 

Any of the foregoing, andother factors, could harm our ability to achieve anticipated levels ofprofitability from acquired businesses or to realize other anticipated benefitsof acquisitions.  In addition, becauseacquisitions of high technology companies are inherently risky, no assurancecan be given that our previous or future acquisitions will be successful andwill not adversely affect our business, operating results, or financialcondition.

 

***We utilize “open source” softwarein some of our products.***

 

The open source softwarecommunity develops software technology for free use by anyone. We have reliedon open source technology for the encryption features in our CuteFTP Pro andSecure FTP Server products. Our reliance on open source code software mayimpose limitations on our ability to commercialize our solution and may subjectus to possible intellectual property litigation.

 

We incorporate a limitedamount of open source code software into our products, and we may use more opensource code software in the future. Open source code may impose limitations onour ability to commercialize our products because, among other reasons, opensource license terms may be ambiguous and may result in unanticipatedobligations regarding our solution, and open source software cannot beprotected under trade secret law. In addition, it may be difficult for us toaccurately determine the developers of the open source code and whether theacquired software infringes third-party intellectual property rights. As aresult, we could be subject to suits by parties claiming ownership of what webelieve to be open source software. Claims of infringement or misappropriationagainst us could be costly for us to defend and could require us to seek toobtain licenses from third parties in order to continue offering our solution,to re-engineer our solution or to discontinue the sale of our solution in theevent re-engineering could not be accomplished on a timely basis. If thisoccurs, our business and operating results could be harmed.

 

In addition, from time totime there have been claims challenging the ownership of open source softwareagainst companies that incorporate open source software into their products. Weuse a limited amount of open source software in our solution and may use moreopen source software in the future. As a result, we could be subject to suitsby parties claiming ownership of what we believe to be open source software.Any of this litigation could be costly for us to defend, hurt our results ofoperations and financial condition or require us to devote additional researchand development resources to change our solution.

 

***If we lose key personnel we maynot be able to execute our business plan.***

 

Our future success dependson the continued services of key members of our management team. Theseindividuals are difficult to replace because of the intense competition forsimilarly skilled people. In addition, new members of the management team maynot be productive for weeks or months as they learn about our products and theadministration within GlobalSCAPE.

 

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***We may not be able to competeeffectively with larger, better-positioned companies, resulting in lowermargins and loss of market share.***

 

We operate in intensely competitivemarkets that experience rapid technological developments, changes in industrystandards, changes in customer requirements, and frequent new productintroductions and improvements.  If weare unable to anticipate or react to these competitive challenges or ifexisting or new competitors gain market share in any of our markets, ourcompetitive position could weaken and we could experience a drop in revenuesthat could adversely affect our business and operating results.  To compete successfully, we must maintain asuccessful research and development effort to develop new products and servicesand enhance existing products and services, effectively adapt to changes in thetechnology or product rights held by our competitors, appropriately respond tocompetitive strategy, and effectively adapt to technological changes andchanges in the ways that our information is accessed, used, and stored withinour enterprise and consumer markets.  Ifwe are unsuccessful in responding to our competitors or to changingtechnological and customer demands, we could experience a negative effect onour competitive position and our financial results.

 

We compete with a variety ofcompanies who have significantly greater revenues and financial resources thanGlobalSCAPE as well as greater personnel and technical resources. For example,CuteFTP and CuteFTP Pro compete with products offered by Ipswitch, Inc.and Microsoft Corporation, EFT competes with products from Sterling Commerceand several other vendors, and WAFS competes with Riverbed Technology whichrecently completed an initial public offering. Large companies may be able to develop new technologies more quicklythan we can, to offer a broader array of products, and to respond more quicklyto new opportunities, industry standards or customer requirements. For example,Sterling Commerce receives approximately $50 million in maintenance contractrevenue annually, providing them with significant resources for productdevelopment and marketing.  Somecompetitors may also be able to adopt more aggressive pricing strategies. Forexample, Ipswitch gives an older version of its file transfer protocol programaway for free for non-commercial use, and Microsoft includes file transferprotocol functionality in its internet browser, which it distributes for free.Increased competition may result in lower operating margins and loss of marketshare. Additional competitors may enter the market and may have significantlygreater capabilities and resources than we do.

 

***It may be difficult for us torecruit software developers and other technical and management personnelbecause we are a relatively small company.***

 

We competeintensely with other internet software development and distribution companiesinternationally to recruit and hire from a limited pool of qualified personnel.Some qualified candidates prefer to work for larger, better known companies..In order to attract and retain personnel in a competitive marketplace, webelieve that we must provide a competitive compensation package, including cashand equity-based compensation. The volatility in our stock price may from timeto time adversely affect our ability to recruit or retain employees. Inaddition, we may be unable to obtain required stockholder approvals of futureincreases in the number of shares available for issuance under our equitycompensation plans, and recent changes in accounting rules require us totreat the issuance of employee stock options and other forms of equity-basedcompensation as compensation expense. As a result, we may decide to issue fewerequity-based incentives and may be impaired in our efforts to attract andretain necessary personnel. If we are unable to hire and retain qualifiedemployees, or conversely, if we fail to manage employee performance or reducestaffing levels when required by market conditions, our business and operatingresults could be adversely affected.

 

Key personnelhave left our company in the past and there likely will be additionaldepartures of key personnel from time to time in the future. The loss of anykey employee could result in significant disruptions to our operations,including adversely affecting the timeliness of product releases, thesuccessful implementation and completion of company initiatives, the effectivenessof our disclosure controls and procedures and our internal control overfinancial reporting, and the results of our operations. In addition, hiring,training, and successfully integrating replacement sales and other personnelcould be time consuming, may cause additional disruptions to our operations,and may be unsuccessful, which could negatively impact future revenues.

 

***Our ability to develop oursoftware will be seriously impaired if we are not able to use our foreignsubcontractors.***

 

We rely on foreignsubcontractors to help us develop our software. If these programmers decided tostop working for us, or if we were unable to continue using them because ofpolitical or economic instability, we would have difficulty finding comparablyskilled developers. In addition, we would likely have to pay considerably morefor the same work, especially if we used U.S. personnel. If we could notreplace the programmers, it would take us significantly longer to develop ourproducts.

 

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***We may incur losses as we attemptto expand our business.***

 

We intend to expand ourbusiness and therefore expect to expend significant additional resources ondeveloping our sales force, developing a more robust reseller program, researchand development, marketing and product development. As a result, we may need toexpend significant resources to accomplish these goals. If we fail to successfullydevelop and market new products or improve our direct and channel salesresults, we may not be able to achieve the necessary revenue growth and may notbe profitable.

 

***Our operations are vulnerable tosecurity breaches that could harm the quality of our products and services ordisrupt our ability to deliver our products and services.***

 

Third parties may breach oursystem security and damage our products and services or misappropriateconfidential customer information. This might cause us to lose customers, oreven cause customers to make claims on us for damages to them. In addition, wemay be required to expend significant resources to protect against securitybreaches and/or to address problems caused by such breaches.

 

***Increasedcustomer demands on our technical support services may adversely affect ourrelationships with our customers and our financial results.***

* *

We offertechnical support services with many of our products. We may be unable torespond quickly enough to accommodate short-term increases in customer demandfor support services. We also may be unable to modify the format of our supportservices to compete with changes in support services provided by competitors orsuccessfully integrate support for our customers. Further customer demand forthese services, without corresponding revenues, could increase costs andadversely affect our operating results.

 

***Our products may expose customersto invasion of privacy, causing customer dissatisfaction.***

 

Our Secure FTP Server andEnhanced File Transfer are intended to provide outsiders access to a customer’scomputer, making the customer vulnerable to security breaches, which couldresult in the loss of their privacy or property. Customers suffering invasionsof privacy or other harm could result in customer dissatisfaction and possibleclaims against us for any resulting damages.

 

**Risks Related to Stock Ownership**

 

***Our stock price is/may bevolatile.***

 

The trading price of ourcommon stock has been and could continue to be subject to wide fluctuations inresponse to certain factors, including:

 

Quarter-to-quarter variations in results ofoperations;

 

Our announcements of new products;

 

Our competitors’ announcements of new products;

 

Our product development or release schedule;

 

General conditions in the software industry; and

 

Investor perceptions and expectations regarding ourproducts, plans and strategic position and those of our competitors andcustomers.

 

In addition, the publicstock markets experience extreme price and trading volume volatility,particularly in high-technology sectors of the market. This volatility hassignificantly affected the market prices of securities of many technologycompanies for reasons often unrelated to the operating performance of thespecific companies. The broad market fluctuations may adversely affect themarket price of our common stock.

 

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***Accounting charges may cause fluctuationsin our quarterly financial results.***

* *

Our financial results may beaffected by non-cash and other accounting charges, including:

 

Amortization of intangible assets, including acquiredproduct rights

 

Impairment of goodwill

 

Stock-based compensation expense

 

Restructuring charges

 

Impairment of long-lived assets

 

For example,in connection with our acquisition of Availl in 2006,  we have recorded approximately $5.2 millionof acquired product rights and other intangible assets and $6.4 million ofgoodwill. We have recorded and will continue to record future amortizationcharges with respect to a portion of these intangible assets. In addition, wewill evaluate our long-lived assets, including property and equipment,goodwill, acquired product rights, and other intangible assets, whenever eventsor circumstances occur which indicate that these assets might be impaired.

 

***We do not pay dividends on ourcommon stock.***

 

We have not paid a dividendon our common stock and have no plan to do so in the near future.  In addition, the terms of our revolvingcredit facility prohibit the payment of dividends.

 

***Anti-takeover provisions in ourcharter and Delaware law could inhibit others from acquiring us.***

 

Some of the provisions ofour certificate of incorporation and bylaws and in Delaware law could, togetheror separately:

 

discourage potential acquisition proposals;

 

delay or prevent a change in control; and

 

limit the price that investors may be willing to payin the future for shares of our common stock.

 

In particular, ourcertificate of incorporation and bylaws prohibit stockholders from voting bywritten consent or calling meetings of the stockholders.  We are also subject to Section 203 ofthe Delaware General Corporation Law, which generally prohibits a Delawarecorporation from engaging in any of a broad range of business combinations withany interested stockholder, as defined in the statute, for a period of threeyears following the date on which the stockholder became an interestedstockholder.

 

***Our directors and executiveofficers continue to have substantial control over us***

 

Ourdirectors and executive officers, together with their affiliates and relatedpersons,  beneficially own, in the aggregate, approximately 46% of ouroutstanding common stock at December 31, 2007. As a result, thesestockholders, acting together, would have the ability to control GlobalSCAPEand direct its policies including the outcome of matters submitted to ourstockholders for approval, such as the election of directors and any merger,consolidation or sale of all or substantially all of our assets. In addition,our certificate of incorporation and bylaws provide for our Board of Directorsto be divided into three classes of directors serving staggered three-yearterms.  As a result, approximately one-third of our Board of Directorswill be elected each year.

 

***Stockholders’ ownership of ourstock may be significantly diluted, affecting the value of the stock.***

 

There were options for 1,960,328 shares outstanding under our employee stockoption plans as March 1,2008, of which 971,493 werevested as of March 1, 2008.We have filed a registration statement under the Securities Act, covering stockissued upon the exercise of options by non-affiliates, and we may file aregistration statement covering options held by affiliates as well. If we donot file a registration statement covering affiliates, affiliates who exercisetheir options may choose 

 

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tosell the stock under an exemption from registration, such as Rule 144under the Securities Act. The exercise of these options and sale of theresulting stock could depress the value of our stock.

 

**Risks Relate****d****to Legal Uncertainty**

 

***We are vulnerable to claims thatour products infringe third-party intellectual property rights particularlybecause our products are partially developed by independent parties.***

 

We may be exposed to futurelitigation based on claims that our products infringe the intellectual propertyrights of others. This risk is exacerbated by the fact that some of the code inour products is developed by independent parties or licensed from third partiesover whom we have less control than we exercise over internal developers. Inaddition, we expect that infringement claims against software developers willbecome more prevalent as the number of products and developers grows and thefunctionality of software programs in the market increasingly overlaps. Claimsof infringement could require us to re-engineer our products or seek to obtainlicenses from third parties in order to continue offering its products. Inaddition, an adverse legal decision affecting our intellectual property, or theuse of significant resources to defend against this type of claim could place asignificant strain on our financial resources and harm our reputation.

 

***We may not be able to protect ourintellectual property rights.***

 

Our software code, and tradeand service marks are some of our most valuable assets. Given the global natureof the internet and our business, we are vulnerable to the misappropriation ofthis intellectual property, particularly in foreign markets, such as China andEastern Europe, where laws or law enforcement practices are less developed. Theglobal nature of the internet makes it difficult to control the ultimatedestination or security of our software making it more likely that unauthorizedthird parties will copy certain portions of our proprietary information orreverse engineer the proprietary information used in its programs. If ourproprietary rights were infringed by a third-party, and we did not haveadequate legal recourse, our ability to earn profits, which are highlydependent on those rights, would be severely diminished.

 

***Other companies may own, obtainor claim trademarks that could prevent limit or interfere with our use of ourtrademarks.***

 

Our various trademarks areimportant to our business. If we were to lose the use of any of our trademarks,our business would be harmed and we would have to devote substantial resourcestowards developing an independent brand identity. Defending or enforcing ourtrademark rights at a local and international level could result in the expenditureof significant financial and managerial resources.

 

###### **Item 1B.  Unresolved Staff Comments**

###### ** **

None.

 

## **Item 2.  Properties**

## ** **

Our corporateoffice is located in a technical park in northwest San Antonio calledUniversity Park Tech Center II.  Ourlease for the 14,700 square foot facility expires in September 2008.  Our annual rent is approximately $191,000. ByJune 2008, the corporate office will relocate to a new 21,495 square footfacility also located in northwest San Antonio. The annual rent on the eleven yearlease for this facility will average $584,000. Availl is located in an office park inAndover, Massachusetts called Brickstone Square.  Our lease for the 3920 square foot facilityexpires in October 2009.  Our annualrent is approximately $90,800.  Webelieve these facilities will be suitable for our current business needs andthat suitable additional space will be available on acceptable terms whenneeded.

 

## **Item 3.  Legal Proceedings**

## ** **

We are notcurrently involved in any material pending legal proceedings, but may becomesubject to legal proceedings in the ordinary course of our business.  Such claims may result in the expenditure ofsignificant financial and managerial resources.

 

## **Item 4.  Submission of Matters toa Vote of Security Holders**

## ** **

None.

 

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###### **Item 4A.  Executive Officers of the Company**

###### ** **

***Kelly E. Simmons.***  Mr. Simmonsserves as GlobalSCAPE’s interim President and Chief Financial Officer andCorporate Secretary. He is a Texas CPA and has over 27 years experience infinancial management including accounting, SEC reporting, mergers andacquisitions, information systems, and investor relations.  From 1988 to 2000,Mr. Simmons held various positions, including CFO, with two affiliatedpublic companies, US Long Distance and Billing Concepts which grew fromrevenues of $2 million in 1988 to over $500 million in 1999 with over 1,200employees.  Before joining GlobalSCAPE, he was CFO of Sino SwearingenAircraft Corporation, a manufacturer of light business jets from 2005 to 2007. Mr. Simmons holds a B.S. degree in Finance from Louisiana StateUniversity.

 

***Jeffrey Gehring****.***  **Mr. Gehring serves as GlobalSCAPE’s VicePresident of Sales and has been with GlobalSCAPE since November 2004 inthat capacity. Mr. Gehring is responsible for the company’s inbound sales,corporate sales and the reseller program. Mr. Gehring was employed byNextel Partners as Director of Sales in 2004, where he coordinated sales acrossthe country. From 2003 to 2004, Mr. Gehring was Sales Manager forGlobalSCAPE, performing the duties he presently holds. From 2002 to 2003, Mr. Gehringwas a principal in a start up business, ConnectOne Telecom, where he got thebusiness off the ground from the organizational stage to operations. Prior to2002, Mr. Gehring was Director of Sales and Marketing at UDP, a telecommunicationsbilling, order management and customer service software company. In addition to his UDP experience, he has more than20 years of operational and sales management experience in large andmedium-sized businesses, including Unisys, Bell South and Metrocall. Hisexperience includes strategic planning and implementation for companies that requirerapid growth, as well as establishing processes and policies that fosterworld-class sales organizations.

 

***Timothy J. Barton***.  Mr. Barton serves asGlobalSCAPE’s Vice President of Operations. He is responsible for productdefinition, development, and testing, and for the GlobalSCAPE IT infrastructureand web site development.  Mr. Bartonjoined GlobalSCAPE in March of 2006 as the Vice President of ProductDevelopment and Quality Assurance. Prior to joining GlobalSCAPE, he served asChief Architect of Secure Logix Corporation, where he was responsible forrequirements definition and product design. Mr. Barton was employed bySecure Logix form 1998 to 2006 and held positions of Director of SoftwareEngineering and ETM Development Manager prior to becoming Chief Architect in2005. Prior to Secure Logix, Mr. Barton held positions of Research Analystand Senior Research Analyst at Southwest Research Institute where he developedsoftware for the US Military and NASA. Mr. Barton holds a B.S. in ComputerScience from Slippery Rock University.

 

***Gregory Hoffer.***  Mr. Hoffer serves as VicePresident and Chief Technology Officer and has been employed by GlobalSCAPEsince May 2000. Mr. Hoffer is responsible for overseeing all softwaredevelopment and Web development at GlobalSCAPE. Before joining GlobalSCAPE, Mr. Hofferheld software development positions at the consulting firm of Marotz, Inc.Prior to that, Mr. Hoffer managed the IT department and was head of thecomputer science department at Saint Mary’s Hall, a private school in SanAntonio, Texas. Mr. Hoffer received a bachelor’s degree in computerscience from Trinity University and is pursuing his master’s degree in computerscience.

 

***K. Earl Posey.  ***Mr. Posey serves as GlobalSCAPE’sVice-President of Investor Relations/Business Operations. In this capacity heis responsible for mergers and acquisitions, investor relations and humanresources. Mr. Posey’s background includes time spent with Black andDecker and Nortel Networks in various positions in human resources andmanufacturing. In addition, he has been a professor at the university levelteaching courses in management and labor relations. Immediately prior tojoining GlobalSCAPE Mr. Posey was managing principal and founder ofGossyppia Partners, a consultancy that specialized in the development ofstrategic plans for corporations. Mr. Posey did his graduate andpost-graduate work at Vanderbilt University.

 

***DouglasConyers.  ***Mr. Conyers serves asVice President of Professional Services and has been employed by GlobalSCAPEsince March 2007. Mr. Conyers is responsible for total customersatisfaction as they look to enhance and customize GlobalSCAPE solutions basedon their company’s requirements. Prior to joining GlobalSCAPE, he heldpositions as Chief Architect, Director of Systems Engineering and SeniorSoftware Engineer for SecureLogix Corp. Previous to that, he held softwareengineering positions with both the Southwest Research Institute and ParadigmSimulations. Conyers has a B.S. in Computer Science from Trinity University.

 

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# PART II

#  

## **Item 5.**    Marketfor Registrant’s Common Equity, Related Stockholder Matters and IssuerPurchases of Equity

## ** **

Our common stock is listed on the American Stock Exchange under thesymbol GSB and began trading on July 19, 2007.  As of December 31,2007, there were approximately 2,371 holders of record of our commonstock.  GlobalSCAPE stock began tradingon February 15, 2002.  The tablebelow sets forth the quarterly high and low bid prices for our common stock forthe last two fiscal years.

 

### **Common Stock Price**

 
| ** **                               | ** ** | **2006** | ** ** | **2007** | ** ** |
|------------------------------------------|------------|----------|------------|----------|------------|
| ** **                               | ** ** | **High** | ** ** | **Low**  | ** ** | **High** | ** ** | **Low** | ** ** |
| First Quarter (ending March 31)     |       | $        | 3.20       |     | $          | 1.05 |   | $ | 3.35 |   | $ | 2.63 |   |
| Second Quarter (ending June 30)     |       | $        | 3.75       |     | $          | 2.21 |   | $ | 4.00 |   | $ | 2.13 |   |
| Third Quarter (ending September 30) |       | $        | 3.25       |     | $          | 2.50 |   | $ | 5.90 |   | $ | 2.85 |   |
| Fourth Quarter (ending December 31) |       | $        | 3.50       |     | $          | 2.16 |   | $ | 7.71 |   | $ | 3.85 |   |
|                                     |       |     |       |     |       |   |   |   |   |
| Annual                                   |       | $        | 3.75       |     | $          | 1.05 |   | $ | 7.71 |   | $ | 2.13 |   |

 

The closingprice on March 14, 2008 was $2.15. All prices listed above prior to July 19, 2007 are over-the-countermarket quotations which reflect inter-dealer prices, without retail mark-up,mark-down, or commission and may not necessarily represent actual transactions.

 

We have neverpaid a cash dividend, and do not expect to do so in the foreseeablefuture.  The terms of our revolvingcredit facility prohibit the payment of dividends.

 

**Item 6.  Selected Financial Data**

 

The selectedfinancial data presented below for the years ended December 31, 2003,2004, 2005, 2006 and 2007 are derived from our audited financial statements.

 

**Statement of Operations Data:**

 
| ** **                                                                            | ** ** | **2003**  | ** ** | **2004**  | ** ** | **2005**  | ** ** | **2006**   | ** ** | **2007**   | ** ** |
|---------------------------------------------------------------------------------------|------------|-----------|------------|-----------|------------|-----------|------------|------------|------------|------------|------------|
| Revenues:                                                                             |       |      |       |      |       |      |       |       |       |       |       |
| Software product revenues                                                             |       | $         | 4,734,105  |      | $          | 4,713,191 |       | $          | 6,096,045  |       | $          | 9,395,445 |   | $ | 14,826,197 |   |
| Maintenance and support (net of deferred  revenue)                                    |       | 113,014   |       | 217,469   |       | 582,570   |       | 1,578,236  |       | 3,534,144  |       |
| Total revenues                                                                        |       | 4,847,119 |       | 4,930,660 |       | 6,678,615 |       | 10,973,681 |       | 18,360,341 |       |
| Operating expenses:                                                                   |       |      |       |      |       |      |       |       |       |       |       |
| Cost of revenues (exclusive of depreciation  and amortization shown separately below) |       | 532,910   |       | 371,242   |       | 279,964   |       | 468,515    |       | 250,439    |       |
| Selling, general and administrative                                                   |       | 3,613,759 |       | 3,456,598 |       | 3,986,047 |       | 6,142,299  |       | 10,049,430 |       |
| Research and development                                                              |       | 945,395   |       | 727,423   |       | 869,155   |       | 1,230,400  |       | 1,919,253  |       |
| Depreciation and amortization                                                         |       | 390,154   |       | 171,834   |       | 98,071    |       | 99,213     |       | 279,573    |       |
| Total operating expenses                                                              |       | 5,482,218 |       | 4,727,097 |       | 5,233,237 |       | 7,940,427  |       | 12,498,695 |       |
| Income (loss) from operations                                                         |       | (635,099  | )          | 203,563   |       | 1,445,378 |       | 3,033,254  |       | 5,861,646  |       |
| Interest expense, net                                                                 |       | (5,016    | )          | (1,651    | )          | (620      | )          | (128,362   | )          | (34,893    | )          |
| Interest income                                                                       |       | —    |       | —    |       | 10,685    |       | 60,639     |       | 95,808     |       |
| Gain (loss) on sale of assets                                                         |       | (1,486    | )          | —    |       | 1,242     |       | 619        |       | 365        |       |
| Other income, net                                                                     |       | —    |       | —    |       | —    |       | —     |       | 2,269      |       |
| Income (loss) before provision for income  taxes                                      |       | (641,601  | )          | 201,912   |       | 1,456,685 |       | 2,966,150  |       | 5,925,195  |       |
| Total income tax provision (benefit)                                                  |       | 1,400     |       | 1,489     |       | 9,981     |       | 1,003,618  |       | 2,282,928  |       |
| Net income (loss)                                                                     |       | $         | (643,001   | )         | $          | 200,423   |       | $          | 1,446,704  |       | $          | 1,962,532 |   | $ | 3,642,267 |   |
| Net income (loss) per common share - basic                                            |       | $         | (0.05      | )         | $          | 0.01      |       | $          | 0.10       |       | $          | 0.13 |   | $ | 0.21 |   |
| Net income (loss) per common share -  assuming dilution                               |       | $         | (0.05      | )         | $          | 0.01      |       | $          | 0.09       |       | $          | 0.12 |   | $ | 0.20 |   |

 
| **Balance Sheet Data:**                                                   | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
|---------------------------------------------------------------------------|------------|------------|------------|------------|------------|------------|------------|------------|------------|------------|------------|
|                                                                      |       |       |       |       |       |       |       |       |       |       |       |
| ** **                                                                | ** ** | **2003**   | ** ** | **2004**   | ** ** | **2005**   | ** ** | **2006**   | ** ** | **2007**   | ** ** |
|                                                                      |       |       |       |       |       |       |       |       |       |       |       |
| Cash and cash equivalents                                                 |       | $          | 342,433    |       | $          | 572,959    |       | $          | 2,029,473  |       | $          | 4,632,666 |   | $ | 5,214,479 |   |
| Working capital                                                           |       | $          | 19,203     |       | $          | 341,749    |       | $          | 1,741,354  |       | $          | 2,749,266 |   | $ | 5,073,507 |   |
| Total assets                                                              |       | $          | 918,278    |       | $          | 971,857    |       | $          | 2,901,671  |       | $          | 16,367,749 |   | $ | 20,361,858 |   |
| Long term debt including capital lease  obligations, less current portion |       | $          | —     |       | $          | —     |       | $          | —     |       | $          | 3,076,698 |   | $ | — |   |
| Cash dividends per common share                                           |       | $          | —     |       | $          | —     |       | $          | —     |       | $          | — |   | $ | — |   |

 

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## **Item 7.  Management’s Discussionand Analysis of Financial Condition and Results of Operation**

## ** **

The followingManagement’s Discussion and Analysis of Financial Condition and Results ofOperations should be read in conjunction with our financial statements for theyears ended December 31, 2005, 2006 and 2007 and related notes includedelsewhere in this document.

 

**Overview**

 

We develop anddistribute secure managed file transfer, or MFT, software for individuals andbusiness users to safely send files over the internet. We have also developedWide-Area File System, or WAFS, collaboration and Continuous Data Protection orCDP, software which further enhance the ability to share and backup fileswithin the infrastructure of a company’s wide and local area networks, or WANand LAN at WAN and LAN speeds.  Our MFTproducts ensure the privacy of critical information such as financial data,medical records, customer files and other similar documents.  In addition, these products ensure compliancewith government regulations relating to the protection of information whileallowing users to reduce IT costs, increase efficiency, track and audittransactions and automate processes.  OurWAFS and CDP products provide data replication, acceleration of file transfer,sharing/collaboration and continuous data backup and recovery to ourcustomers.  We believe that we areuniquely positioned to provide secure transfer, sharing, and replication offiles that need to be transmitted inside the user’s firewall to distributedoffices, or outside the user’s firewall to business and trading partners.

 

The followingis a brief description of our products:

 

·      File Management Products — Our File Managementproducts are best known for the “CuteFTP” product line. They primarily consistof products that help users securely move and copy files on the internet. Asubstantial portion of our revenues are derived from licensing our FileManagement products. Some of our products encrypt the transfers for securityusing technology similar to a Web browser. The products consist of threeproduct categories; client, server and compression transfer. Our FileManagement product line includes CuteFTP Home, Cute FTP Professional, SecureFTPServer, and Enhanced File Transfer.

 

·      Wide-Area File System (WAFS) Products — Our WAFSproducts provide a file sharing and collaboration solution over multiplesites.  By keeping all data updated oneach location’s file server, each site has instant access to the very latestversion.  Our WAFS products help ensurethat no one can ever open an old file version without user conflicts. Changesmade to data on any server are mirrored on all other servers.

 

·      Continuous Data Protection (CDP) Products — OurCDP products consolidate remote backup for file servers.  As files change, the servers backup in realtime to the customer’s backup site which can be at the same or a remotelocation.   The backup server can keepany number of past versions of each file (and deleted files) which gives thecustomer immediate restore, as well as the ability to perform point-in-timesnapshots.

 

We believe that thefuture success of our business will be dependent upon our ability to improveour current products and to introduce new products, through research and development,innovations by our employees, strategic partnerships, and acquisitions. Weintend to continue enhancing our file transfer products to meet the demands ofboth individual and enterprise users, while improving the security features ofour current product line, and to expand into growing markets through theacquisition of compatible companies and products and through strategicpartnerships. For example, in 2007, we introduced upgrades to EFT 5.0,  CuteFTP 8.0, the Secure Ad Hoc Transfermodule, and the HS-PCI module ensuring compliance with DSS  In 2006, we acquired Availl, a leadingprovider of Wide-Area File System (WAFS) collaboration and continuous dataprotection (CDP) products as part of this strategy.  This acquisition expanded our technology baseinto data replication, acceleration of file transfer, sharing/collaboration andcontinuous data backup and recovery.  Webelieve that these products have give us entry into two large and rapidlygrowing markets. Based upon estimates by Gartner, Inc., and otherconsulting groups in our markets, we believe that the WAN optimization/WAFSmarket is currently $300 million annually and growing at 20% - 30% per year,and the CDP market is of similar size but in the early stages of adoption andgrowing rapidly.  In addition, we believethat the WAFS and CDP products are highly complementary to our traditionalSecure File Transfer products facilitating cross sales and new customerpenetration. As described below, our WAFS/CDP revenues have not increased asmuch as originally anticipated due to management’s decision to delay theaggressive marketing of those products to our existing customer base and to themarket in general as we had initially planned. The amount of time required to make improvements to our WAFS and CDPproducts that we believe are necessary has been greater than we had expected.

 

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##### **Liquidity and Capital Resources**

 

The Companycontinues to enjoy a strong working capital position resulting from solid netprofits from operations over the last fifteen consecutive quarters, includingthe quarter ended December 31, 2007. ** **At December 31, 2007, our networking capital position was $5.0 million, which consists of current assetsless current liabilities. We had cash available of $5.2 million and we continueto generate cash in excess of our operational needs.  In addition, the Company has a $750,000 lineof credit with Silicon Valley Bank which is unused at this time. We relyheavily on cash flows from operations to fund our business a a result of theprofitable history of the company.

 

Our capitalrequirements principally relate to our need to enhance our existing productsand to develop new products, which primarily consist of research anddevelopment expenses and expenses for people and the elements that supporttheir work. By comparison, we do not spend large sums on capital equipment.Over the past three years, we spent $103,304 in 2005, $150,926 in 2006 and$175,779 in 2007 for equipment. Capital expenditures will be higher in 2008 asa result of the planned move to new office space.

 

Our totalrevenues increased 67% in 2007 when compared to 2006. The principal drivers ofour sales are the enterprise level server products for MFT, which are EFTServer and SecureFTP Server. These products accounted for 68% of our sales in2007, not including maintenance and support agreements. Prior to 2006, we werelargely dependent upon sales of CuteFTP Home and CuteFTP Professional, whichaccounted for 51%****of our revenue in the year ended December 31,2005, and represented larger percentages of sales in earlier years. The actualsales of these products have remained relatively flat over the three yearsended December 31, 2007 while becoming an increasingly smaller portion ofour total revenue. In 2007, sales of these products represented approximately19.3 % of our total revenues

 

Since ourprincipal sources of capital are cash on hand and cash flow from operations, tothe extent that sales decline, our cash flow from operations will alsodecline.  If sales decline or if ourliquidity is otherwise under duress, management could substantially reducepersonnel and personnel-related costs, reduce or substantially eliminatecapital expenditures and/or reduce or substantially eliminate research anddevelopment expenditures. We also have $750,000 of availability under ourrevolving line of credit and, if necessary, we may also sell equity securitiesor enter into other credit arrangements in order to finance future acquisitionsor licensing activities.

 

Net cashprovided by operating activities was $1,549,636, $2,604,274 and $5,213,674 in2005, 2006 and 2007, respectively.  Thisincrease in cash for each year was generated from the profitable operations ofour business. Some of the major non-cash items that were charged against netincome over this period are depreciation and amortization, stock-basedcompensation and deferred revenues. While these items are expensed according toGenerally Accepted Accounting Principles, the cash impact from these chargeshas occurred or will occur in other accounting periods and the differencereflects a positive impact on cash in the Consolidated Statements of CashFlows. There is also a recurring timing difference between the time we recordsales and the time we actually receive payment for those sales. The increase inAccounts Receivables during this period serve to negatively impact the cashfrom operations in the Consolidated Statements of Cash Flows, and the DeferredRevenues during this period serve to positively impact the cash from operationsin those statements.

 

Our financingactivities over the past three years have primarily related to funding the acquisitionof Availl. In 2006, we used $7.6 million in cash to acquire Availl. The cashused to make this acquisition came from a $5 million term loan from SiliconValley Bank. We repaid $400,000 of the loan in 2006 and $4.6 million in 2007from the cash generated from our operations and a stock offering completed in November 2006.We have also sold stock through the exercise of employee stock options. Wereceived cash from stock option exercises of $8,940, $28,968, and $681,656 for2005, 2006, and 2007, respectively. We also used our own cash for therepurchase of treasury our common stock, in the amount of $527,558 in 2007.

 

At December 31,2007, our principal commitments consisted of obligations outstanding underoperating leases as well as royalty agreements with third parties, federalincome tax and trade accounts payable.  The commitments related to royalty agreements are contingent on salesvolumes.  We plan to continue to expendsignificant resources on product development in future periods and may also useour cash to acquire or license technology, products or businesses related toour current business.  We will move to anew facility in 2008. We will likely purchase significant fixed assets andlease hold improvements in connection with moving into this facility.

 

In order tofinance the cash portion of the purchase price in the merger with Availl,GlobalSCAPE entered into a Loan and Security Agreement dated September 22,2006 with Silicon Valley Bank.  The LoanAgreement with Silicon Valley Bank provides for a $5.0 million term loan and a$750,000 revolving credit facility. We repaid the balance of the term loan on March 1,2007.   The entire amount of therevolving credit facility remains available. The borrowings under the 

 

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revolving credit facility bear interest at 1.00% above the Bank’s primerate and matures on September 22, 2008. Interest payments are due on the first day of each calendar month. Therehave been no borrowings under the revolving credit facility.

 

The revolvingcredit facility is secured by substantially all of the assets of GlobalSCAPE, Inc.  The Loan Agreement contains customary covenantsincluding covenants relating to maintaining legal existence and good standing,complying with applicable laws, delivery of financial statements, maintenanceof inventory, payment of taxes, maintaining insurance, and protection ofintellectual property rights. GlobalSCAPE is also prohibited from selling any of its assets other thanin the ordinary course of business, acquiring any other entities, changing thetypes of business they are engaged in, incurring indebtedness other than thatpermitted by the Loan Agreement, incurring any liens on their assets other thanthose permitted by the Loan Agreement, making certain investments or paying anydividends on, or acquiring, any shares of its capital stock.  The Loan Agreement contains two financialcovenants.  GlobalSCAPE and itssubsidiaries must maintain:

 

·             a ratio of (A) EBITDAless the sum of (i) cash taxes paid and (ii) non-financed capitalexpenditures (excluding non-cash stock options and taxes already accrued), to (B) thesum of (i) principal plus (ii) interest paid to Bank, of at least 1.5to 1.00; and

 

·             a ratio of totalfunded debt to EBITDA of not more than 2.00 to 1.00.

 

The loan agreement also contains customary events of default includingthe failure to make payments of principal and interests, the breach ofprincipal and interests, the breach of any covenants, the occurrence of amaterial adverse change, certain bankruptcy and insolvency events, the breachof other agreements creating indebtedness of $50,000 or more and the entry of ajudgment of $50,000 or more against GlobalSCAPE or any of itssubsidiaries.  At March 21, 2008, wewere in compliance with these covenants.

 

The followingtable summarizes our contractual obligations at December 31, 2007,consisting of future minimum capital lease payments and future minimum paymentsunder operating leases:

 
| ** **                       | ** ** | **Payments Due by Fiscal Year** | ** ** |
|----------------------------------|------------|-----------------------------------------------------|------------|
| **Contractual Obligations** | ** ** | **2008**                                            | ** ** | **2009** | ** ** | **2010** | ** ** | **Thereafter** | ** ** | **Total** | ** ** |
| Operating Lease                  |       | $                                                   | 578,181    |   | $ | 606,465 |   | $ | 538,587 |   | $ | 4,939,948 |   | $ | 6,663,181 |   |
| Equipment Leases                 |       | $                                                   | 7,392      |   | $ | 7,392 |   | $ | 7,392 |   | $ | 9,056 |   | $ | 31,232 |   |
| Deferred Compensation            |       | $                                                   | 119,711    |   | $ | — |   | $ | — |   | $ | — |   | $ | 119,711 |   |
| Total Cash Obligations           |       | $                                                   | 705,284    |   | $ | 613,857 |   | $ | 545,979 |   | $ | 4,949,004 |   | $ | 6,814,124 |   |

 

##### **Critical Accounting Policies**

 

***Use of Estimates***

* *

Management’sDiscussion and Analysis of Financial Condition and Results of Operations isbased upon the Company’s financial statements, which have been prepared inaccordance with accounting principles generally accepted in the UnitesStates.  The preparation of thesefinancial statements requires management to make estimates and assumptions thataffect the reported amount of assets and liabilities.  On an ongoing basis, management evaluates itsestimates and judgments, including those related to revenue recognition, allowancefor doubtful accounts receivable, long-lived and intangible assets,  valuation of stock based compensation,  income taxes and contingencies.  Management bases its estimates on historicalexperience, observable trends, and various other assumptions that are believedto be reasonable under the circumstances. Management uses this information to make judgments about the carryingvalues of assets and liabilities that are not readily apparent form othersources.  Actual results may differ fromthe estimates under different assumptions or conditions.

 

Managementbelieves the following critical accounting policies affect its more significantjudgments and estimates used in the preparation of its financial statements.

 

***RevenueRecognition***

* *

Our revenue is generatedprimarily by licensing our software products and providing support for thoseproducts.  Revenues are comprisedof the gross selling price of the software, including shipping charges and theearned portion of support and maintenance agreements.  In periods where we had revenue from advertising,we recognized the net proceeds received from advertisers as revenue.  The Company recognizes revenue in accordancewith the American Institute of Certified Public Accountants Statement ofPosition (“SOP”) 97-2, *Software RevenueRecognition*, as modified by SOP 98-9, *Modification of SOP 97-2, Software Revenue Recognition, With Respect toCertain Transactions*.

 

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Revenues fromthe sale of software products are recognized and completely earned uponshipment or electronic delivery of the product provided that persuasiveevidence of an arrangement exists, collection is probable, payment terms arefixed and determinable and no significant obligations remain.  The majority of our sales are deliveredelectronically via email.

 

We also selltechnical support and maintenance agreements (post contract customer support “PCS”),which are sometimes bundled with the software.  When vendor specific objective evidence(“VSOE”) of fair value exists for all elements in a multiple elementarrangement, revenue is allocated to each element based on the relative fairvalue of each of the elements.  VSOE offair value is established by the price charged when the same element is soldseparately.  In a multiple elementarrangement whereby VSOE of fair value of all undelivered elements exists butVSOE of fair value does not exist for one or more delivered elements, revenueis recognized using the residual method. Under the residual method, the fair value of the undelivered elements isdeferred and the remaining portion of the arrangement fee is recognized asrevenue, assuming collection is probable. Revenue allocated to PCS is recognized ratably over the contractualterm, typically one year.  We sometimessell installation and training services with our PureCMS and EFT products.  Revenue for installation and training isrecognized when performed.

 

The Companybegan selling technical support and maintenance services for some of itssoftware products in 2001.  With higherpriced support and maintenance for our enterprise class software products andour efforts to renew agreements upon their expiration, sales of theseagreements grew in 2005, 2006 and 2007 to $811,000, $2,032,000 and $4,486,000respectively.  Growth in the sales ofmaintenance and support agreements may result in the deferred recognition of asignificant amount of revenue in future periods.

 

***Allowancefor Doubtful Accounts***

*** ***

We providecredit, in the normal course of business, to a number of companies and performongoing evaluations of our credit risk. We require no collateral from our customers and we estimate theallowance for uncollectible accounts based on our historical experience andcurrent credit evaluations.  No singlecustomer accounted for more than 2% of net revenues in 2006.  We had one customer that accounted forapproximately 2.7% of net revenues in 2005, and one customer that accounted for14.5% of net revenues in 2007.

 

***Valuationof Long-Lived and Intangible Assets***

* *

The Companyassesses the impairment of long-lived and intangible assets whenever events orchanges in circumstances indicate that the carrying value may not berecoverable.  Factors consideredimportant which could trigger an impairment review included the following:  significant underperformance relative tohistorical or projected future cash flows; significant changes in the manner ofuse of the assets or the strategy for the overall business; and significantnegative industry trends.  Whenmanagement determines that the carrying value of long-lived and intangibleassets may not be recoverable, impairment is measured based on the excess ofthe assets’ carrying value over the estimated fair value.  No impairment was recognized in 2005, 2006 or2007.

 

***Stock-BasedCompensation***

* *

Effective January 1,2006, we adopted the provisions of Statement of Financial Accounting Standards No. 123(revised 2004), “Share-Based Payment” (SFAS No.123R) requiring that compensationcost relating to share-based payment transactions be recognized in thefinancial statements. The cost is measured at the grant date, based on thecalculated fair value of the award, and is recognized as an expense over theemployee’s requisite service period (generally the vesting period of the equityaward). Prior to January 1, 2006, we accounted for share-basedcompensation to employees in accordance with Accounting Principles BoardOpinion No. 25, “Accounting for Stock Issued to Employees” (APB No. 25),and related interpretations. We also followed the disclosure requirements ofStatement of Financial Accounting Standards No. 123, “Accounting forStock-Based Compensation”, as amended by Statement of Financial AccountingStandards No. 148, “Accounting for Stock-Based Compensation-Transition andDisclosure”. We adopted SFAS No. 123R using the modified prospectivemethod and, accordingly, financial statement amounts for prior periodspresented in this Form 10-K have not been restated to reflect the fairvalue method of recognizing compensation cost relating to stock options.

 

See note 8 tothe financial statements under the heading “Stock Options and Stock BasedCompensation.”

 

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***Researchand Development***

 

Research anddevelopment expenses include all direct costs, primarily salaries for personneland expenditures with external development sources, related to the developmentof new products and significant enhancements to existing products and areexpensed as incurred until such time as technological feasibility isachieved.  For the years 2005, 2006 and2007, we spent approximately $869,000, $1,230,000 and $1,919,000, respectively,on research and development.  No researchand development expenses were capitalized in 2005, 2006 or 2007.

 

***Income Taxes***

* *

GlobalSCAPEaccounts for income taxes using the liability method in accordance withStatement of Financial Accounting Standards No. 109, *Accounting for Income Taxes*.  The liability method provides that thedeferred tax assets and liabilities are recorded based on the differencebetween the tax bases of assets and liabilities and their carrying amount forfinancial reporting purposes, as measured by the enacted tax rates and lawsthat will be in effect when the differences are expected to reverse.  Deferred tax assets and liabilities arecarried on the balance sheet with the presumption that they will be realizablein future periods when pre-tax income is generated.  GlobalSCAPE had a deferred tax asset of$51,983, $8,724, and $80,044 at December 31, 2005, 2006 and 2007,respectively

 

Statement of FinancialAccounting Standards (SFAS) No. 109 requires a valuation allowance toreduce the deferred tax assets reported if, based on the weight of theevidence, it is more likely than not that some portion or all of the deferredtax assets will not be realized.  Afterconsideration of all of the evidence, both positive and negative, managementdetermined that no allowance was considered necessary at December 31,2005, 2006 or 2007.

 

##### **Comparison of Year Ended December 31, 2007 toYear Ended December 31, 2006**

 
| ** **                          | ** ** | **2007**   | ** ** | **2006**  | ** ** | **$ Change** | ** ** | **% Change** | ** ** |
|-------------------------------------|------------|------------|------------|-----------|------------|-------------------|------------|-------------------|------------|
| Software product revenues           |       | $          | 18,360,341 |      | $          | 10,973,681        |       | $                 | 7,386,660  |   | 67.31 | % |
|                                |       |       |       |      |       |              |       |              |       |
| Cost of revenues                    |       | 250,439    |       | 468,515   |       | (218,076          | )          | (46.55            | )%         |
| Selling, general and administrative |       | 10,049,430 |       | 6,142,299 |       | 3,907,131         |       | 63.61             | %          |
| Research and development expenses   |       | 1,919,253  |       | 1,230,400 |       | 688,853           |       | 55.99             | %          |
| Depreciation and amortization       |       | 279,573    |       | 99,213    |       | 180,360           |       | 181.79            | %          |
| Total operating expense             |       | 12,498,695 |       | 7,940,427 |       | 4,558,268         |       | 57.41             | %          |
| Income from operations              |       | 5,861,646  |       | 3,033,254 |       | 2,828,392         |       | 93.25             | %          |
| Other Income (expense)              |       | 63,549     |       | (67,104   | )          | 130,653           |       | (194.70           | )%         |
| Income tax expense                  |       | 2,282,928  |       | 1,003,618 |       | 1,279,310         |       | 127.47            | %          |
| Net Income                          |       | $          | 3,642,267  |      | $          | 1,962,532         |       | $                 | 1,679,735  |   | 85.59 | % |

 

***Revenue.***  We derive our revenues primarily fromsoftware sales.  Revenue is comprised ofthe gross selling price of software, including shipping charges and the earnedportion of support and maintenance agreements. Revenues increased from $10,973,681 in 2006 to $18,360,341 in 2007. Theincrease of $7.4 million, or approximately 67%, in revenues was the result ofincreased sales of our WAF Systems, Secure FTP Server Systems and EFT products.In addition, in May 2007, we receiveda substantial order from the U.S. Army for Secure FTP Server, SSH Module andCuteFTP Professional software licenses, with maintenance, starting at aninitial purchase of $2.5 million in software licenses and $300,000 in initialmaintenance and support revenue. The fully deployed contract has maintenanceand support valued at $1 million annually This sale represented approximately14.5% of our revenues in 2007.

 

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The following table reflects revenue by product including the relatedmaintenance and support for each product:

 
| ** **                                                                                              | ** ** | **Revenue for the Year Ending December 31,** | ** ** |
|---------------------------------------------------------------------------------------------------------|------------|----------------------------------------------------------------------------|------------|
| **Product**                                                                                             | ** ** | **2007**                                                                   | ** ** | **2006** | ** ** |
|                                                                                                    |       |                                                                       |       |   |   |   |   |   |   |
| CuteFTP Professional                                                                                    |       | $                                                                          | 2,438,085  |   | 13.28 | % | $ | 2,405,970 |   | 21.92 | % |
| CuteFTP Home                                                                                            |       | 1,102,458                                                                  |       | 6.00 | % | 1,044,593 |   | 9.52 | % |
| Enhanced File Transfer                                                                                  |       | 6,691,982                                                                  |       | 36.45 | % | 4,170,938 |   | 38.01 | % |
| SecureFTP Server                                                                                        |       | 5,769,020                                                                  |       | 31.42 | % | 2,521,994 |   | 22.98 | % |
| Wide-Area File Systems                                                                                  |       | 2,711,605                                                                  |       | 14.77 | % | 600,373 |   | 5.47 | % |
| Continuous Data Protection                                                                              |       | 187,996                                                                    |       | 1.02 | % | 34,298 |   | 0.31 | % |
| All Others                                                                                              |       | 411,274                                                                    |       | 2.24 | % | 649,219 |   | 5.92 | % |
| Deferred Revenue adjustment                                                                             |       | (952,079                                                                   | )          | (5.19 | )% | (453,703 | ) | (4.13 | )% |
| Total Operating Revenues                                                                                |       | $                                                                          | 18,360,341 |   | 100.00 | % | $ | 10,973,682 |   | 100.00 | % |
|                                                                                                    |       |                                                                       |       |   |   |   |   |   |   |
| Gross maintenance and support included  above before recognition of the net adjustment to defer revenue |       | $                                                                          | 3,534,144  |   | 19.25 | % | $ | 1,578,236 |   | 14.38 | % |

 

WAFS and CDPproducts accounted for approximately 15.8% of total revenue for 2007. Therewere only $683,934 in sales for these products in 2006 because we did not beginselling these products until after completing the Availl acquisition in September 2006.The WAFS/CDP revenues have not increased as originally anticipated due tomanagement’s decision to delay the aggressive marketing of those products toour existing customer base and to the market in general as soon as we hadinitially planned.  The amount of timerequired to make improvements to our WAFS and CDP products that we believe arenecessary has been greater than we had expected.  We believe that good progress is currentlybeing made on the product improvements and we anticipate a more aggressivesales effort for these products in 2008.

 

Sales of ourSecureFTP Server and Enhanced File Transfer products grew by 86% in 2007 to$12.5 million, from $6.7 million in 2006. This increase was the resultof the continuing emphasis of our internal sales group to market and sell theseproducts to meet the needs of businesses to transfer files in a secure fashionusing business or enterprise level software as well as the $2.5 million sale tothe US Army described above.  Intotal, our Secure FTP Server and Enhanced File Transfer products representedapproximately 68% of our total revenues in 2007 as compared to 61% in2006.  Revenues from CuteFTP Home andCuteFTP Professional increased by 3% and accounted for approximately 31% and19% of total revenues 2006 and 2007, respectively. Those changes were the result of thecontinuing maturity of CuteFTP and CuteFTP Pro, and the availability of lowcost alternatives to occasional users.

 

We believethat our reliance on the CuteFTP products will continue to decline as weemphasize sales of our more complex enterprise products.  In addition, because of the more complexnature of SecureFTP Server, Enhanced File Transfer, WAFS and CDP, purchasersrequire increased maintenance and support. As a result, our maintenance and support revenues increased by 124% from$1,578,236  in 2006 to $3,534,144  in 2007, net of deferred revenue.  Maintenance and support pricing is reflectiveof the license cost of the products and the additional support it takes tomaintain and support the products and customers. With higher maintenance andsupport revenues, we will recognize additional deferred revenue as we earn therevenue over the life of the maintenance and support agreement.

 

***Cost of Revenues.***  Cost of revenues consists primarily ofroyalties, a portion of our bandwidth costs as well as production, packagingand shipping costs for boxed copies of software products.  Cost of revenues decreased by approximately47% between periods from $468,515 in 2006 to $250,439 in 2007. Royaltyexpenses, the major component of cost of revenues, declined as did the sale ofsome of our internet products primarily as the result of the non-renewal of thethird party software distribution agreement with Hannon Hill, whose products,Cascade Serve and Publish XML, had previously generated a significant revenuecontribution and related royalty expense. Royalties that we pay on software products licensed from third parties,which we resell, are expensed as a cost of sales when the software product issold or earlier if the recoverability of any prepaid royalties is indoubt.  Cost of sales as a percent oftotal revenues was 4.3% and 1.4% respectively for 2006 and 2007.

 

***Selling, General andAdministrative.*** Selling, general and administrative expenses consist primarily ofpersonnel and related expenses, marketing, customer support, professional fees,rent, bad debt and credit card transaction fees.  Selling, general and administrative expensesincreased by approximately 64% from $6,142,299 in 2006 to $10,049,432 in2007.  As a percentage of revenue,SG&A decreased to 55% of revenue in 2007 from 56% of revenue in 2006.  A major portion of this increase wasattributable to increased wages and commissions which included a 12 personemployee headcount increase.

 

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Another large portion of the SG&A increase was caused by stockbased compensation expense for 2007 required by SFAS 123(R) totaling $937,546in 2007 compared to $497,895 in 2006.

 

***Research andDevelopment.*** Research and development expenses increased by approximately 56% from$1,230,400  in 2006 to $1,919,253 in2007. Virtually all of the increase was caused by increases in wages, fringebenefits and contract labor.  A majorportion of the increased wages and fringe benefit cost was the result ofreclassification of a Vice President level employee from marketing toR&D.   Included in the research anddevelopment expenses, external development costs increased approximately 16%from 2006 to 2007, $469,565 to $545,183 respectively.

 

***Depreciation andAmortization.*** Depreciation and amortization expense consists of depreciation expenserelated to our fixed assets. Depreciation and amortization expense increased by $180,360, orapproximately 182%, year over year. Depreciation expense has increased due to replacement of equipment atend of life cycle and as required for new employees.

 

***Other Income(Expense), Net.*** In 2006, we had interest expense of $128,362 related primarily to thefinancing of the Availl acquisition, interest income of $60,639 as a result ofinterest earned on excess cash balances and a gain of $619 on sale of fullydepreciated fixed assets. During 2007, we had interest expense of $34,893primarily related to the financing of the Availl acquisition, interest incomeof $95,808 as a result of interest earned on excess cash balances and a gain of$365 on sale of fully depreciated fixed assets.

 

***Income Taxes.***  The provision for state income taxes in 2006was $3,533 and the provision for federal income taxes was $1,000,085 in2006.  GlobalSCAPE’s effective income taxrate is 34.5% and differs from the federal rate primarily because of statetaxes.  The provision for state incometaxes in 2007 was $114,054 and the provision for federal income taxes was$2,168,874 in 2007.  GlobalSCAPE’seffective income tax rate is 38.5% and differs from the federal rate primarilybecause of prior period credits for EIE Exclusion, Research &Development and amended returns totaling $130,976.

 

***Net Income.***  In 2007, net income was primarily the resultof continued growth in our Enhanced File Transfer product and our Secure FTPServer product, resulting in an increase in revenue, while we continued tocontrol expenses. In addition, our 2007 income tax expense was reduced bytaking advantage of Research & Development Credits andExtra-territorial Income Exclusion Credits for 2004, 2005, and 2006.  In 2007, we paid an additional $1,279,310 inincome taxes and still increased net income by $1,679,735 over the prioryear.  The increase in net income was theresult of continued growth of sales of the Enhanced File Transfer and SecureFTP Server products.

 

##### **Comparisonof Year Ended December 31, 2006 to Year Ended December 31, 2005**

 
| ** **                                    | ** ** | **2006**  | ** ** | **2005**  | ** ** | **$ Change** | ** ** | **% Change** | ** ** |
|-----------------------------------------------|------------|-----------|------------|-----------|------------|-------------------|------------|-------------------|------------|
| Software product revenues                     |       | $         | 10,973,681 |      | $          | 6,678,615         |       | $                 | 4,295,066  |   | 64.31 | % |
|                                          |       |      |       |      |       |              |       |              |       |
| Cost of revenues                              |       | 468,515   |       | 279,964   |       | 188,551           |       | 67.35             | %          |
|                                          |       |      |       |      |       |              |       |              |       |
| Selling, general and administrative  expenses |       | 6,142,299 |       | 3,986,047 |       | 2,156,252         |       | 54.09             | %          |
| Research and development expenses             |       | 1,230,400 |       | 869,155   |       | 361,245           |       | 41.56             | %          |
| Depreciation and amortization                 |       | 99,213    |       | 98,071    |       | 1,142             |       | 1.16              | %          |
| Total operating expense                       |       | 7,940,427 |       | 5,233,237 |       | 2,707,190         |       | 51.73             | %          |
| Income from operations                        |       | 3,033,254 |       | 1,445,378 |       | 1,587,876         |       | 109.86            | %          |
| Other Income (expense)                        |       | (67,104   | )          | 11,307    |       | (78,411           | )          | (693.47           | )%         |
| Income tax expense                            |       | 1,003,618 |       | 9,981     |       | 993,637           |       | 9,955.29          | %          |
| Net Income                                    |       | $         | 1,962,532  |      | $          | 1,446,704         |       | $                 | 515,828    |   | 35.66 | % |

 

***Revenue.***  We derive our revenues primarily fromsoftware sales.  Revenue is comprised ofthe gross selling price of software, including shipping charges and the earnedportion of support and maintenance agreements. Revenues increased from $6,678,615 in 2005 to $10,973,681 in 2006. Theincrease of $4.3 million or approximately 64% in revenues was the result ofincreased sales of our Secure FTP Server Systems and EFT products.

 

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The followingtable reflects revenue by product including the related maintenance and supportfor each product:

 
| ** **                                                                                              | ** ** | **Revenue for the Year Ending December 31,** | ** ** |
|---------------------------------------------------------------------------------------------------------|------------|----------------------------------------------------------------------------|------------|
| **Product**                                                                                             | ** ** | **2006**                                                                   | ** ** | **2005** | ** ** |
|                                                                                                    |       |                                                                       |       |   |   |   |   |   |   |
| CuteFTP Professional                                                                                    |       | $                                                                          | 2,405,970  |   | 21.92 | % | $ | 2,285,416 |   | 34.22 | % |
| CuteFTP Home                                                                                            |       | 1,044,593                                                                  |       | 9.52 | % | 1,130,357 |   | 16.93 | % |
| Enhanced File Transfer                                                                                  |       | 4,170,938                                                                  |       | 38.01 | % | 1,407,792 |   | 21.08 | % |
| SecureFTP Server                                                                                        |       | 2,521,994                                                                  |       | 22.98 | % | 1,503,530 |   | 22.51 | % |
| Wide-Area File Systems                                                                                  |       | 600,373                                                                    |       | 5.47 | % | — |   | 0.00 | % |
| Continuous Data Protection                                                                              |       | 34,298                                                                     |       | 0.31 | % | — |   | 0.00 | % |
| All Others                                                                                              |       | 649,218                                                                    |       | 5.92 | % | 579,548 |   | 8.68 | % |
| Deferred Revenue adjustment                                                                             |       | (453,703                                                                   | )          | (4.13 | )% | (228,028 | ) | (3.41 | )% |
| Total Operating Revenues                                                                                |       | $                                                                          | 10,973,681 |   | 100.00 | % | $ | 6,678,615 |   | 100.00 | % |
| Gross maintenance and support included  above before recognition of the net adjustment to defer revenue |       | $                                                                          | 1,578,236  |   | 14.38 | % | $ | 582,570 |   | 8.72 | % |

 

WAFS and CDPproducts accounted for approximately 5.8% of total revenue for 2006. There wereonly $634,671 in sales for these products in 2006 as we did not begin sellingthese products until after completing the Availl acquisition in September 2006.

 

Sales of ourSecureFTP Server and Enhanced File Transfer products grew by 130% in 2006 to$6.7 million, from $2.9 million in 2005. This increase was the result ofan increased emphasis of our internal sales group to market and sell theseproducts to meet the needs of businesses to transfer files in a secure fashionusing business or enterprise level software. These products representedapproximately 61% of our total revenues in 2006 as compared to 44% in2005.  Revenues from CuteFTP Home andCuteFTP Professional increased by 1% and accounted for approximately 51% and31% of total revenues 2005 and 2006, respectively. Those changes were the result of thecontinuing maturity of CuteFTP and CuteFTP Pro, and the availability of lowcost alternatives to occasional users.

 

We believethat our reliance on the CuteFTP products will continue to decline as weemphasize sales of our more complex enterprise products.  In addition, because of the more complexnature of SecureFTP Server and Enhanced File Transfer product purchasersrequire increased maintenance and support. As a result, our maintenance and support revenues increased by 171% from$582,570 in 2005 to $1,578,236 in 2006, net of deferred revenue.  Maintenance and support pricing is reflectiveof the license cost of the products and the additional support it takes tomaintain and support the products and customers. With higher maintenance andsupport revenues, we will recognize additional deferred revenue as we earn therevenue over the life of the maintenance and support agreement.

 

***Cost of Revenues.***  Cost of revenues consists primarily ofroyalties, a portion of our bandwidth costs as well as production, packagingand shipping costs for boxed copies of software products.  Cost of revenues increased by approximately67% between periods from $279,964 in 2005 to $468,515 in 2006 due to anincrease in royalty expenses related to our software distribution agreementswith third parties.  Royalties that wepay on software products licensed from third parties, which we resell, areexpensed as a cost of sales when the software product is sold or earlier if therecoverability of any prepaid royalties is in doubt.  Cost of sales as a percent of total revenueswas 4.2% and 4.3% respectively for 2005 and 2006.

 

***Selling, General andAdministrative.*** Selling, general and administrative expenses consist primarily ofpersonnel and related expenses, marketing, customer support, professional fees,rent, bad debt and credit card transaction fees.  Selling, general and administrative expensesincreased by approximately 54% from $3,986,047 in 2005 to $6,142,299 in2006.  A major portion of this increaseis attributable to increased wages and commissions which included the employeeheadcount increase of fifteen, most of which was associated with the Availlacquisition.  Another large portion ofthe SG&A increase was caused by compensation expense for 2006 required bythe adoption of SFAS 123(r) totaling $497,895 which had no effect onexpenses in the prior years.

 

***Research andDevelopment.*** Research and development expenses increased by approximately 42% from$869,155 in 2005 to $1,230,400 in 2006. Virtually all of the increase wascaused by increases in wages, fringe benefits and contract labor.  A major portion of the increased wages andfringe cost was the result of reclassification of a Vice President levelemployee from marketing to R&D.  Included in the research and development expenses, external developmentcosts decreased approximately 1% from 2005 to 2006.

 

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***Depreciation andAmortization.*** Depreciation and amortization expense consists of depreciation expenserelated to our fixed assets. Depreciation and amortization expense increased by $1,142, orapproximately 1%, year over year. Depreciation expense has declined due to a slowdown in additions tofixed assets in current periods relative to prior periods.

 

***Other Income(Expense), Net.*** In 2005, we had interest expense of $620 related primarily to thefinancing of insurance premiums.  During2005, we had interest income of $10,685 as a result of interest earned onexcess cash balances, and a gain of $1,242 on the sale of fully depreciatedfixed assets. During 2006, we had interest expense of $128,362 relatedprimarily to the financing of the Availl acquisition, interest income of$60,639 as a result of interest earned on excess cash balances and a gain of$619 on sale of fully depreciated fixed assets.

 

***Income Taxes.***  The provision for state income taxes in 2005was $1,065 and the provision for federal income taxes was $8,916 in 2005.  GlobalSCAPE’s effective income tax rate is0.7% and differs from the federal rate primarily because of a change in thevaluation allowance for deferred tax assets.  The Company utilized remaining net operating loss carryforwards in 2005to substantially reduce its Federal income tax expense. The provision for stateincome taxes in 2006 was $3,533 and the provision for federal income taxes was$1,000,085 in 2006.  GlobalSCAPE’seffective income tax rate is 34.5% and differs from the federal rate primarilybecause of state taxes.

 

***Net Income.***  In 2005, net income was primarily the resultof the introduction of our Enhanced File Transfer product and the featuresadded to our Secure FTP Server product, resulting in an increase in revenue,while we continued to control expenses. In addition, our 2005 income taxexpense was minimized by the use of loss carry forwards from prior years.  Without loss carry forwards in 2006, we paidan additional $993,637 in income taxes and still increased net income by$515,828 over the prior year.  Theincrease in net income was the result of continued growth of sales of theEnhanced File Transfer and Secure FTP Server products.

 

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## **Item 8.  Financial Statements and Supplementary Data**

 

**GlobalSCAPE, Inc.**

** **

**Index toConsolidated Financial Statements**

** **

**Years ending December 31, 2005, 2006 and 2007**

** **

**Contents**

 
| Report of Independent Registered Public  Accounting Firm - PMB Helin Donovan, LLP   | 28     |
|------------------------------------------------------------------------------------------|--------|
|                                                                                     |   |
| Financial  Statements                                                                    |   |
| Consolidated Balance Sheets                                                              | 29     |
| Consolidated Statements of Operations                                                    | 30     |
| Consolidated Statements of Stockholders’ Equity                                     | 31     |
| Consolidated Statements of Cash Flows                                                    | 32     |
| Notes to Consolidated Financial Statements                                               | 33     |

 

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***Report ofIndependent Registered Public Accounting Firm***

 

The Board of Directors and Shareholders of

GlobalSCAPE, Inc.

 

We have audited the accompanying consolidatedbalance sheets of GlobalSCAPE, Inc. (the Company) as of December 31,2006 and 2007, and the related consolidated statements of operations,shareholders’ equity, and cash flows for the years ended December 31,2005, 2006 and 2007. These consolidated financial statements are theresponsibility of the Company’s management. Our responsibility is to express an opinion on these consolidatedfinancial statements based on our audits.

 

We conducted our audits in accordance with thestandards of the Public Company Accounting Oversight Board (United States).Those standards require that we plan and perform the audit to obtain reasonableassurance about whether the consolidated financial statements are free ofmaterial misstatement. The Company is not required to have, nor were we engagedto perform, an audit of its internal control over financial reporting. Ouraudit included consideration of internal control over financial reporting as abasis for designing audit procedures that are appropriate in the circumstances,but not for the purpose of expressing an opinion on the effectiveness of theCompany’s internal control over financial reporting. Accordingly, we express nosuch opinion. An audit also includes examining, on a test basis, evidencesupporting the amounts and disclosures in the consolidated financialstatements, assessing the accounting principles used and significant estimatesmade by management, as well as evaluating the overall consolidated financialstatement presentation. We believe that our audits provide a reasonable basisfor our opinion.

 

In our opinion, the consolidated financialstatements referred to above present fairly, in all material respects, theconsolidated financial position of GlobalSCAPE, Inc. as of December 31,2006 and 2007, and the results of its operations and its cash flows for theyears ended December 31, 2005, 2006 and 2007, in conformity withaccounting principles generally accepted in the United States of America.

 

As discussed in Note 12 to the financial statements,the Company restated certain amounts previously reported as of and for the yearended December 31, 2007.

 

**PMB Helin Donovan, LLP**

 

 

March 21, 2008 (August 28, 2008 as to Note 12 and the effectsof the restatement)

Austin, Texas

 

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**GlobalSCAPE, Inc.**

** **

**Consolidated BalanceSheets**

 
| ** **                                                                                                                                                       | ** ** | **As of December 31,** | ** ** |
|------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|---------------------------------------|------------|
| ** **                                                                                                                                                       | ** ** | **2006**                              | ** ** | **2007** | ** ** |
| ** **                                                                                                                                                       | ** ** | ** **                            | ** ** | **(Restated)** | ** ** |
| **Assets**                                                                                                                                                       |       |                                  |       |   |   |
| Current assets:                                                                                                                                                  |       |                                  |       |   |   |
| Cash and cash equivalents                                                                                                                                        |       | $                                     | 4,632,666  |   | $ | 5,214,479 |   |
| Accounts receivable (net of allowance for  doubtful accounts of $59,458 and $113,201 in 2006 and 2007, respectively)                                             |       | 1,592,846                             |       | 2,232,927 |   |
| Federal income tax receivable                                                                                                                                    |       | 73,525                                |       | 940,327 |   |
| Prepaid expenses                                                                                                                                                 |       | 115,754                               |       | 87,654 |   |
| Total current assets                                                                                                                                             |       | 6,414,791                             |       | 8,475,387 |   |
|                                                                                                                                                             |       |                                  |       |   |   |
| Fixed Assets, net                                                                                                                                                |       | 232,179                               |       | 262,745 |   |
| Intangible assets, net                                                                                                                                           |       | —                                |       | 5,071,640 |   |
| Goodwill                                                                                                                                                         |       | 9,653,059                             |       | 6,392,075 |   |
| Deferred tax asset                                                                                                                                               |       | 8,724                                 |       | 80,044 |   |
| Other assets                                                                                                                                                     |       | 58,996                                |       | 79,967 |   |
|                                                                                                                                                             |       |                                  |       |   |   |
| Total assets                                                                                                                                                     |       | $                                     | 16,367,749 |   | $ | 20,361,858 |   |
|                                                                                                                                                             |       |                                  |       |   |   |
| **Liabilities and Stockholders’ Equity**                                                                                                                    | ** ** | ** **                            | ** ** | ** ** | ** ** |
| Current liabilities:                                                                                                                                             |       |                                  |       |   |   |
| Accounts payable                                                                                                                                                 |       | $                                     | 371,093    |   | $ | 329,817 |   |
| Accrued expenses                                                                                                                                                 |       | 377,940                               |       | 742,946 |   |
| Current portion of long term debt                                                                                                                                |       | 1,539,455                             |       | — |   |
| Deferred revenue                                                                                                                                                 |       | 1,377,037                             |       | 2,329,117 |   |
| Total current liabilities                                                                                                                                        |       | 3,665,525                             |       | 3,401,880 |   |
|                                                                                                                                                             |       |                                  |       |   |   |
| Long-term liabilities, net of current  portion                                                                                                                   |       | 3,129,185                             |       | 119,711 |   |
| Deferred tax liability                                                                                                                                           |       | —                                |       | 1,750,637 |   |
| Total Liabilities                                                                                                                                                |       | 6,794,710                             |       | 5,272,228 |   |
|                                                                                                                                                             |       |                                  |       |   |   |
| Stockholders’ equity:                                                                                                                                       |       |                                  |       |   |   |
| Preferred stock, par value $0.001 per  share, 10,000,000 authorized, no shares issued or outstanding                                                             |       | —                                |       | — |   |
| Common stock, par value $0.001 per share,  40,000,000 authorized, 16,490,146 and 17,432,352 shares outstanding at  December 31, 2006 and 2007, respectively |       | 16,490                                |       | 17,432 |   |
| Treasury Stock, 159,873 shares at  December 31, 2007                                                                                                        |       | —                                |       | (527,398 | ) |
| Additional paid-in capital                                                                                                                                       |       | 6,363,520                             |       | 8,764,300 |   |
| Retained earnings                                                                                                                                                |       | 3,193,029                             |       | 6,835,296 |   |
| Total stockholders’ equity                                                                                                                                  |       | 9,573,039                             |       | 15,089,630 |   |
| Total liabilities and stockholders’ equity                                                                                                                  |       | $                                     | 16,367,749 |   | $ | 20,361,858 |   |

 

See accompanying notes.

 

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**GlobalSCAPE, Inc.**

** **

**Consolidated Statementsof Operations**

 
| ** **                                                                            | ** ** | **For the Year Ended December 31,** | ** ** |
|---------------------------------------------------------------------------------------|------------|--------------------------------------------------------------|------------|
| ** **                                                                            | ** ** | **2005**                                                     | ** ** | **2006** | ** ** | **2007** | ** ** |
| ** **                                                                            | ** ** | ** **                                                   | ** ** | ** ** | ** ** | **(Restated)** | ** ** |
| Operating revenues:                                                                   |       |                                                         |       |   |   |   |   |
| Software product revenues                                                             |       | $                                                            | 6,096,045  |   | $ | 9,395,445 |   | $ | 14,826,197 |   |
| Maintenance and support (net of deferred  revenues)                                   |       | 582,570                                                      |       | 1,578,236 |   | 3,534,144 |   |
| Total revenues                                                                        |       | 6,678,615                                                    |       | 10,973,681 |   | 18,360,341 |   |
|                                                                                  |       |                                                         |       |   |   |   |   |
| Operating expenses:                                                                   |       |                                                         |       |   |   |   |   |
| Cost of revenues (exclusive of depreciation  and amortization shown separately below) |       | 279,964                                                      |       | 468,515 |   | 250,439 |   |
| Selling, general and administrative  expenses                                         |       | 3,986,047                                                    |       | 6,142,299 |   | 10,049,430 |   |
| Research and development expenses                                                     |       | 869,155                                                      |       | 1,230,400 |   | 1,919,253 |   |
| Depreciation and amortization                                                         |       | 98,071                                                       |       | 99,213 |   | 279,573 |   |
| Total operating expense                                                               |       | 5,233,237                                                    |       | 7,940,427 |   | 12,498,695 |   |
| Income from operations                                                                |       | 1,445,378                                                    |       | 3,033,254 |   | 5,861,646 |   |
|                                                                                  |       |                                                         |       |   |   |   |   |
| Other income (expense):                                                               |       |                                                         |       |   |   |   |   |
| Interest expense                                                                      |       | (620                                                         | )          | (128,362 | ) | (34,893 | ) |
| Interest income                                                                       |       | 10,685                                                       |       | 60,639 |   | 95,808 |   |
| Gain on sale of assets                                                                |       | 1,242                                                        |       | 619 |   | 365 |   |
| Other income                                                                          |       | —                                                       |       | — |   | 2,269 |   |
| Total other income (expense)                                                          |       | 11,307                                                       |       | (67,104 | ) | 63,549 |   |
| Income before income taxes                                                            |       | 1,456,685                                                    |       | 2,966,150 |   | 5,925,195 |   |
| Total income tax provision                                                            |       | 9,981                                                        |       | 1,003,618 |   | 2,282,928 |   |
| Net income                                                                            |       | $                                                            | 1,446,704  |   | $ | 1,962,532 |   | $ | 3,642,267 |   |
|                                                                                  |       |                                                         |       |   |   |   |   |
| Net income per common share — basic                                              |       | $                                                            | 0.10       |   | $ | 0.13 |   | $ | 0.21 |   |
|                                                                                  |       |                                                         |       |   |   |   |   |
| Net income per common share — assuming  dilution                                 |       | $                                                            | 0.09       |   | $ | 0.12 |   | $ | 0.20 |   |
|                                                                                  |       |                                                         |       |   |   |   |   |
| Weighted average shares outstanding — basic                                      |       | 13,778,989                                                   |       | 14,744,635 |   | 17,199,618 |   |
|                                                                                  |       |                                                         |       |   |   |   |   |
| Weighted average shares outstanding —  assuming dilution                         |       | 15,442,524                                                   |       | 16,160,839 |   | 18,289,157 |   |

 

See accompanying notes.

 

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**GlobalSCAPE, Inc.**

** **

**Consolidated Statementsof Stockholders’ Equity**

** **
| ** **                                                | ** ** | ** **            | ** ** | ** **       | ** ** | **Additional** | ** ** | ** **   | ** ** | **Retained**  | ** ** | ** ** | ** ** |
|-----------------------------------------------------------|------------|-----------------------|------------|------------------|------------|----------------|------------|--------------|------------|---------------|------------|------------|------------|
| ** **                                                | ** ** | **Common Stock** | ** ** | **paid in** | ** ** | **Treasury**   | ** ** | **Earnings** | ** ** | ** **    | ** ** |
| ** **                                                | ** ** | **Shares**            | ** ** | **Amount**       | ** ** | **Capital**    | ** ** | **Stock**    | ** ** | **(Deficit)** | ** ** | **Total**  | ** ** |
| Balances at December 31, 2004                        |       | 13,773,219            |       | 13,773           |       | 675,365        |       |         |       | (216,207      | )          | 472,931    |       |
|                                                      |       |                  |       |             |       |           |       |         |       |          |       |       |       |
| Net income                                                |       | —                |       | —           |       | —         |       | —       |       | 1,446,704     |       | 1,446,704  |       |
|                                                      |       |                  |       |             |       |           |       |         |       |          |       |       |       |
| Exercise of Options                                       |       | 24,900                |       | 25               |       | 8,915          |       |         |       | —        |       | 8,940      |       |
| Balance at December 31, 2005                         |       | 13,798,119            |       | 13,798           |       | 684,281        |       |         |       | 1,230,497     |       | 1,928,576  |       |
|                                                      |       |                  |       |             |       |           |       |         |       |          |       |       |       |
| Net income                                                |       | —                |       | —           |       | —         |       | —       |       | 1,962,532     |       | 1,962,532  |       |
|                                                      |       |                  |       |             |       |           |       |         |       |          |       |       |       |
| Stock Compensation (FAS123R)                              |       | —                |       | —           |       | 497,895        |       | —       |       | —        |       | 497,895    |       |
|                                                      |       |                  |       |             |       |           |       |         |       |          |       |       |       |
| Common shares and warrants issued for cash                |       | 1,352,000             |       | 1,352            |       | 3,153,716      |       | —       |       | —        |       | 3,155,068  |       |
|                                                      |       |                  |       |             |       |           |       |         |       |          |       |       |       |
| Common shares issued in acquisition of  Availl, Inc. |       | 716,846               |       | 717              |       | 1,999,283      |       | —       |       | —        |       | 2,000,000  |       |
|                                                      |       |                  |       |             |       |           |       |         |       |          |       |       |       |
| Exercise of Options                                       |       | 623,181               |       | 623              |       | 28,345         |       | —       |       | —        |       | 28,968     |       |
| Balance at December 31, 2006                         |       | 16,490,146            |       | 16,490           |       | 6,363,520      |       |         |       | 3,193,029     |       | 9,573,039  |       |
|                                                      |       |                  |       |             |       |           |       |         |       |          |       |       |       |
| Net income                                                |       | —                |       | —           |       | —         |       | —       |       | 3,642,267     |       | 3,642,267  |       |
|                                                      |       |                  |       |             |       |           |       |         |       |          |       |       |       |
| Stock Compensation (FAS123R)                              |       | —                |       | —           |       | 937,546        |       | —       |       | —        |       | 937,546    |       |
|                                                      |       |                  |       |             |       |           |       |         |       |          |       |       |       |
| Shares issued for net share settlement of  warrants       |       | 35,000                |       | 35               |       | (35            | )          | —       |       | —        |       | —     |       |
|                                                      |       |                  |       |             |       |           |       |         |       |          |       |       |       |
| Tax benefit from exercise of ISO stock options            |       | —                |       | —           |       | 782,680        |       | —       |       | —        |       | 782,680    |       |
|                                                      |       |                  |       |             |       |           |       |         |       |          |       |       |       |
| Exercise of options                                       |       | 1,067,079             |       | 1,067            |       | 680,589        |       | —       |       | —        |       | 681,656    |       |
|                                                      |       |                  |       |             |       |           |       |         |       |          |       |       |       |
| Treasury Stock                                            |       | (159,873              | )          | (160             | )          | —         |       | (527,398     | )          | —        |       | (527,558   | )          |
|                                                      |       |                  |       |             |       |           |       |         |       |          |       |       |       |
| Balance at December 31, 2007  (Restated)             |       | 17,432,352            |       | 17,432           |       | 8,764,300      |       | (527,398     | )          | 6,835,296     |       | 15,089,630 |       |

** **

See accompanying notes.

 

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**GlobalSCAPE, Inc.**

** **

**Consolidated Statementsof Cash Flows**

 
| ** **                                                                                              | ** ** | **For the Year ended December 31,** | ** ** |
|---------------------------------------------------------------------------------------------------------|------------|--------------------------------------------------------------|------------|
| ** **                                                                                              | ** ** | **2005**                                                     | ** ** | **2006** | ** ** | **2007** | ** ** |
| ** **                                                                                              | ** ** | ** **                                                   | ** ** | ** ** | ** ** | **(Restated)** | ** ** |
| Operating Activities:                                                                                   |       |                                                         |       |   |   |   |   |
| Net income                                                                                              |       | $                                                            | 1,446,704  |   | $ | 1,962,532 |   | $ | 3,642,267 |   |
| Adjustments to reconcile net income to net  cash provided by operating activities:                      |       |                                                         |       |   |   |   |   |
| Bad debt expense                                                                                        |       | 8,231                                                        |       | 48,214 |   | 128,816 |   |
| Depreciation and amortization                                                                           |       | 98,071                                                       |       | 99,213 |   | 279,573 |   |
| (Gain) on disposition of assets                                                                         |       | (1,242                                                       | )          | (619 | ) | (365 | ) |
| Stock-based compensation                                                                                |       | —                                                       |       | 497,895 |   | 937,546 |   |
| Deferred taxes                                                                                          |       | (51,983                                                      | )          | (27,780 | ) | (117,003 | ) |
| Changes in operating assets and  liabilities:                                                           |       |                                                         |       |   |   |   |   |
| Accounts receivable                                                                                     |       | (450,413                                                     | )          | (496,547 | ) | (768,897 | ) |
| Prepaid expenses                                                                                        |       | 25,828                                                       |       | (178,921 | ) | (56,022 | ) |
| Other assets                                                                                            |       | 269                                                          |       | 6,579 |   | (169,667 | ) |
| Accounts payable                                                                                        |       | 30,546                                                       |       | 246,606 |   | (41,276 | ) |
| Accrued expenses                                                                                        |       | 60,258                                                       |       | (46,968 | ) | 365,006 |   |
| Deferred revenues                                                                                       |       | 382,461                                                      |       | 453,703 |   | 952,080 |   |
| Other long-term liabilities                                                                             |       | 906                                                          |       | 40,367 |   | 61,616 |   |
| Net cash provided by operating activities                                                               |       | 1,549,636                                                    |       | 2,604,274 |   | 5,213,674 |   |
| Investing Activities:                                                                                   |       |                                                         |       |   |   |   |   |
| Proceeds from sale of property and  equipment                                                           |       | 1,242                                                        |       | 619 |   | 365 |   |
| Purchase of property and equipment                                                                      |       | (103,304                                                     | )          | (150,926 | ) | (175,779 | ) |
| Purchase of Availl, Inc.                                                                           |       | —                                                       |       | (7,776,932 | ) | — |   |
| Cash acquired in purchase of Availl, Inc.                                                               |       | —                                                       |       | 181,276 |   | — |   |
| Net cash used in investing activities                                                                   |       | (102,062                                                     | )          | (7,745,963 | ) | (175,414 | ) |
| Financing Activities:                                                                                   |       |                                                         |       |   |   |   |   |
| Loan proceeds                                                                                           |       | —                                                       |       | 5,000,000 |   | — |   |
| Deferred loan costs                                                                                     |       | —                                                       |       | (38,484 | ) | — |   |
| Repayments on loan                                                                                      |       | —                                                       |       | (400,670 | ) | (4,610,545 | ) |
| Proceeds from exercise of stock options                                                                 |       | 8,940                                                        |       | 28,968 |   | 681,656 |   |
| Purchase of treasury stock                                                                              |       | —                                                       |       | — |   | (527,558 | ) |
| Proceeds from the PIPE, net of issuance costs                                                           |       | —                                                       |       | 3,155,068 |   | — |   |
| Net cash provided by (used in) financing  activities                                                    |       | 8,940                                                        |       | 7,744,882 |   | (4,456,447 | ) |
| Net increase in cash                                                                                    |       | 1,456,514                                                    |       | 2,603,193 |   | 581,813 |   |
| Cash at beginning of period                                                                             |       | 572,959                                                      |       | 2,029,473 |   | 4,632,666 |   |
| Cash at end of period                                                                                   |       | $                                                            | 2,029,473  |   | $ | 4,632,666 |   | $ | 5,214,479 |   |
| Supplemental disclosure of cash flow  information:                                                      |       |                                                         |       |   |   |   |   |
| Cash paid during the year for:                                                                          |       |                                                         |       |   |   |   |   |
| Interest paid                                                                                           |       | $                                                            | 620        |   | $ | 89,323 |   | $ | 29,719 |   |
| Income taxes paid                                                                                       |       | $                                                            | 1,065      |   | $ | 1,162,289 |   | $ | 2,414,094 |   |
|                                                                                                    |       |                                                         |       |   |   |   |   |
| Non-cash activities:                                                                                    |       |                                                         |       |   |   |   |   |
| Tax benefit from exercise of ISO stock  options included as an adjustment to additional paid in capital |       | $                                                            | —     |   | $ | — |   | $ | 782,680 |   |
| Deferred tax liability and goodwill  resulting from reclass of intangible assets from goodwill          |       | $                                                            | —     |   | $ | — |   | $ | 1,796,320 |   |

 

See accompanying notes.

 

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### **GlobalSCAPE, Inc.**

### **Notes to Consolidated Financial Statements**

### **December 31, 2006 and 2007 (Restated)**

### ** **

**1.**             Overview of theBusiness and Significant Accounting Policies

 

***Natureof Business***

 

GlobalSCAPE, Inc.(GlobalSCAPE or the Company), founded in April 1996, develops anddistributes secure file management software that enables users to safely senddata over the internet. Our software is used worldwide across a wide range ofindustries. Through the end of 2007, we had sold approximately 1.9 millionsoftware licenses and our customer base includes individual consumers, small tomedium-sized businesses, as well as some of the largest corporations in theworld.

 

Ourfile transfer products provide for the privacy of critical information such asmedical records, financial data, customer files and other similar documents. Inaddition, our products provide for compliance with government regulationsrelating to the protection of information while allowing users to reduce ITcosts, increase efficiency, track and audit transactions and automateprocesses.

 

ThroughAvaill Inc. (Availl), our wholly-owned subsidiary, we also provide Wide AreaFiles Systems (WAFS) and Continuous Data Protection (CDP) software.  This addition expands GlobalSCAPE’stechnology base into data replication, acceleration of file transfer,sharing/collaboration and continuous data backup and recovery.  We believe that our expanded product offeringuniquely positions us to provide comprehensive, secure transfer, sharing, andreplication of files that need to be transmitted inside the user’s firewall todistributed offices, or outside the user’s firewall to business and tradingpartners.

 

Duringthe year ended December 31, 2007, approximately 72% of our revenues weregenerated from customers within the United States, with the remaining 28%concentrated mostly in Western Europe, Canada and Australia. Virtually all ofour 2007 revenues were derived from sales of software licenses and supportagreements. The combined sales of CuteFTP Home and CuteFTP Pro accounted for31% and 19% of our revenues in 2006 and 2007, respectively,. The combined salesof our Secure Server and Enhanced File Transfer products grew from 61% of ourrevenues in 2006 to 68% in 2007.

 

***CorporateStructure***

*** ***

Priorto September 22, 2006, all of the Company’s operations were conducted byGlobalSCAPE Texas, LP, a Texas limited partnership.  The partners of GlobalSCAPE Texas, LP weretwo Nevada limited liability companies, which were both wholly-ownedsubsidiaries of GlobalSCAPE, Inc., a Delaware corporation.

 

OnSeptember 22, 2006, GlobalSCAPE acquired one hundred percent (100%) of theissued and outstanding capital stock of Availl, a privately held corporationbased in Andover, Mass, pursuant to an Agreement and Plan of Merger with Availland its stockholders.  The initialpurchase price was $9.65 million of which $7.65 million was paid in cash and$2.0 million was paid in shares of GlobalSCAPE common stock. Availl operated asa wholly-owned subsidiary of GlobalSCAPE, Inc. through the end of 2007.

 

Availl, Inc.and all other partnerships and Limited Liability Corporations mentioned abovewere either dissolved or effectively merged into GlobalSCAPE, Inc. on December 31,2007.  The stock of GlobalSCAPE, Inc.is quoted on the American Stock Exchange. References to “GlobalSCAPE” or the “Company”refer collectively to all of these entities unless otherwise indicated.

 

***Basis ofPresentation***

* *

Thepreparation of financial statements in conformity with accounting principlesgenerally accepted in the Unites States requires management to make estimatesand assumptions that affect the amounts reported in the financial statementsand accompanying notes.  Actual results coulddiffer from those estimates.

 

***Principlesof Consolidation***

* *

Theconsolidated financial statements include all subsidiaries.  All inter-company transactions and balanceshave been eliminated. Availl became a subsidiary on September 22, 2006;therefore the consolidated financial statements only include Availl’s financialresults and activities from the date of acquisition.

 

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Asdiscussed in Note 12 below, on August 15, 2008, GlobalSCAPE and its Boardof Directors, after consultation with GlobalSCAPE’s independent registeredpublic accounting firm, concluded that GlobalSCAPE would restate its financialstatements and financial information for the year ended December 31, 2007.

 

***Liquidity***

* *

Theuse of capital resources is driven principally by the need to enhance existingproducts and to develop or acquire new products.  The amount of our expenditures has a direct impacton the ability to offer enhanced and new products to customers.  The Company’s principal source of funds iscash flow from operations which, in turn, is highly dependent on our salesrevenue.  During the year ended December 31,2007, the Company generated $5.2 million of cash from operations, which wasused along with other funds in the repayment of debt and purchase of treasuryshares. At December 31, 2007, the Company had cash available of$5.2 million and we continue to generate cash in excess of our operationalneeds.

 

TheCompany entered into a new loan agreement with Silicon Valley Bank on September 22,2006. The loan agreement established a $750,000 revolving line of credit fortwo years at an interest rate of prime plus 1.00%.

 

Asof December 31, 2007, the Company had cash and cash equivalents of $5.2million and had net working capital of $5.0 million. Management believes thislevel of working capital, together with availability under the Company’srevolving credit facility with Silicon Valley Bank and the excess cashgenerated by the profitable operation of the business, is adequate to financethe Company’s current level of operations.

 

***Reclassifications***

*** ***

***Certain prior periodamounts have been reclassified to conform to the current year presentation.These reclassifications had no impact on operating income as previouslyreported.***

*** ***

***RevenueRecognition***

* *

The Companyrecognizes revenue in accordance with the American Institute of CertifiedPublic Accountants Statement of Position (“SOP”) 97-2, *Software Revenue Recognition*, as modifiedby SOP 98-9, *Modification of SOP 97-2,Software Revenue Recognition, With Respect to Certain Transactions*.

 

Revenues fromthe sale of software products are recognized and completely earned uponshipment or electronic delivery of the product provided that persuasiveevidence of an arrangement exists, collection is probable, payment terms arefixed and determinable and no significant obligations remain.

 

The Companyalso sells technical support and maintenance agreements (post contract customersupport “PCS”), which are sometimes bundled with the software.  When vendor specific objectiveevidence (“VSOE”) of fair value exists for all elements in a multiple elementarrangement, revenue is allocated to each element based on the relative fairvalue of each of the elements.  VSOE offair value is established by the price charged when the same element is soldseparately.  In a multiple elementarrangement whereby VSOE of fair value of all undelivered elements exists butVSOE of fair value does not exist for one or more delivered elements, revenueis recognized using the residual method. Under the residual method, the fair value of the undelivered elements isdeferred and the remaining portion of the arrangement fee is recognized asrevenue, assuming collection is probable. Revenue allocated to PCS is recognized ratably over the contractualterm, typically one year.

 

The Companybegan selling technical support and maintenance services for some of itssoftware products in 2001.  In 2005, 2006and 2007, sales of enterprise class products resulted in higher revenues frommaintenance and support agreements sold to customers and, as a result, deferredrevenue at December 31, 2006 and 2007 was $1,377,037 and $2,329,117respectively.

 

The outboundshipping charges charged to the customer are included in software productrevenues and amounted to approximately $17,673, $13,963 and $7,647 in 2005,2006 and 2007, respectively.  The costsassociated with these shipping charges are included in the software productscost of revenue.

 

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***RoyaltyCosts***

 

Royalties thatthe Company pays on software products licensed from third parties, which itresells, are expensed as a cost of sales when the software product is sold orearlier if the recoverability of any prepaid royalties is in doubt.  The Company has distribution agreements withHannon Hill Corp., Beehive Software, Inc., Visicom Media, Inc.,ComponentOne LLC, and PGP Deutschland AG (formerly Glueck and Kanja).  The GlobalSCAPE software products associatedwith each of the companies are Cascade Server (formerly PublishXML), Mac FTP,CuteHTML Pro and Enhanced File Transfer (EFT), respectively.  The Company incurred approximately $191,970,$392,494, and $188,419 in royalty expense in 2005, 2006 and 2007, respectively.

 

***Concentrationsof Credit Risk and Significant Customers***

* *

Financialinstruments that potentially subject the Company to concentrations of creditrisk consist principally of cash and cash equivalents, and accountsreceivable.  Cash is deposited in demand accounts infederally insured domestic institutions to minimize risk.  The Company provides credit, in thenormal course of business, to a number of companies and performs ongoingevaluations of its credit risk.  TheCompany requires no collateral from its customers.  Management estimates the allowance foruncollectible accounts based on their historical experience and creditevaluation.  In 2005 we had one customerthat accounted for 2.7% of net revenues, no single customer accounted for morethan 2% of revenues in 2006, and one customer accounted for approximately 14.5%of revenues in 2007.

 

Cash and cash equivalents,accounts receivable, employee advances, accounts payable, accrued expenses andnotes payable, related party are reflected in the accompanying financialstatements at cost, which approximates fair value because of the short termmaturity of these instruments.

 

***OtherConcentrations***

* *

*Sales in Foreign Markets. *In2005, 2006 and 2007, approximately 33%, 33% and 28%, respectively, of theCompany’s revenues were generated from sales to customers who providedaddresses in foreign countries.  However, all revenues are received inU.S. dollars so there is no exchange rate risk with respect to the sale of ourproducts.  These sales were concentrated mostly in Western Europe, Canada,and Australia.  In 2005, 2006 and 2007, the UK accounted for approximately9%, 8%, and 8%, respectively, of total revenues.

 

*Labor. *GlobalSCAPE utilizes offshore developers for alarge portion of the coding phase of software development.  If GlobalSCAPE were unable to continue usingthese developers because of political or economic instability, GlobalSCAPE mayhave difficulty finding comparably skilled developers or may have to payconsiderably more for the same work, which would have a material adverse impacton results of operations.

 

***AdvertisingCosts***

* *

The Companyexpenses advertising costs as incurred. Advertising expenses charged to operations for the years ended December 31,2005, 2006 and 2007 were approximately $159,000, $384,000,  and $816,000, respectively, and are includedin selling, general and administrative expenses.  Advertising costs are principally for thepurchase of keywords for internet searches, a direct mail campaign for EFT,trade show participation and advertising in various publications.

 

***IncomeTaxes***

* *

The Companyaccounts for income taxes using the liability method in accordance withStatement of Financial Accounting Standards No. 109, *Accounting for Income Taxes*.  The liability method provides that thedeferred tax assets and liabilities are recorded based on the differencebetween the tax bases of assets and liabilities and their carrying amount forfinancial reporting purposes, as measured by the enacted tax rates and lawsthat will be in effect when the differences are expected to reverse. Deferredtax assets and liabilities are carried on the balance sheet with thepresumption that they will be realizable in future periods when pre-tax incomeis generated. GlobalSCAPE had a deferred tax asset of $51,983,  $8,724 and $80,044 at December 31, 2005,2006 and 2007 respectively.

 

Statement of FinancialAccounting Standards (SFAS) No. 109 requires a valuation allowance toreduce the deferred tax assets reported if, based on the weight of theevidence, it is more likely than not that some portion or all of the deferredtax assets will not be realized.  Afterconsideration of all of the evidence, both positive and negative, managementdetermined that no valuation was considered necessary at December 31, 2006or 2007.

 

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Massachusetts State IncomeTaxes incurred $3,533 and $21,337 for 2006 and 2007 respectively. The MarginTax, enacted by the State of Texas as of January 1, 2007, is based on 1%of revenue less the greater of cost of sales or W2 Wages. The Texas Margin Taxfor 2007 was $92,717.

 

***Researchand Development***

* *

Research anddevelopment expenses include all direct costs, primarily salaries for personneland expenditures with external development sources, related to the developmentof new products and significant enhancements to existing products and areexpensed as incurred until such time as technological feasibility isachieved.  For the years 2005, 2006 and2007, the Company expended approximately $869,000, $$1,230,000 and $1,919,000,respectively, on research and development. Typically technological feasibility is achieved very late in thedevelopment cycle and as such no research and development expenses werecapitalized in 2005, 2006 or 2007.

 

***Stock-BasedCompensation***

* *

Effective January 1, 2006,GlobalSCAPE adopted the provisions of Statement of Financial AccountingStandards No. 123 (revised 2004), “Share-Based Payment” (SFAS No.123R)requiring that compensation cost relating to share-based payment transactionsbe recognized in the financial statements. The cost is measured at the grantdate, based on the calculated fair value of the award, and is recognized as anexpense over the employee’s requisite service period (generally the vestingperiod of the equity award). Prior to January 1, 2006, the Companyaccounted for share-based compensation to employees in accordance withAccounting Principles Board Opinion No. 25, “Accounting for Stock Issuedto Employees” (APB No. 25), and related interpretations. We also followedthe disclosure requirements of Statement of Financial Accounting Standards No. 123,“Accounting for Stock-Based Compensation”, as amended by Statement of FinancialAccounting Standards No. 148, “Accounting for Stock-BasedCompensation-Transition and Disclosure”. The Company adopted SFAS No. 123Rusing the modified prospective method and, accordingly, financial statementamounts for prior periods presented in this Form 10-K have not beenrestated to reflect the fair value method of recognizing compensation costrelating to stock options.

 

There was compensation cost relatedto stock options recognized in operating results of $497,895 in 2006 and$937,546 in 2007.

 

The fair value of each option awardis estimated on the date of grant using the Black-Scholes option-pricing model.Expected volatility is based on historical volatility of GlobalSCAPE stock. TheCompany used the simplified method to derive an expected term. The expectedterm represents an estimate of the time options are expected to remainoutstanding. The risk-free rate for periods within the contractual life of theoption is based on the U.S. treasury yield curve in effect at the time ofgrant. The following table sets forth the assumptions used to determinecompensation cost for our stock options consistent with the requirements ofSFAS No. 123R.

 
| ** **                      | ** ** | **Year Ended  December 31, 2007** | ** ** |
|---------------------------------|------------|--------------------------------------------------|------------|
| Expected  volatility            |       | 96%                                              |       |
| Expected annual  dividend yield |       | 0%                                               |       |
| Risk free rate of  return       |       | 3.45%                                            |       |
| Expected option  term (years)   |       | 5.5 - 6.0                                        |       |

 

Under APB No. 25 there was nocompensation cost recognized for our stock options awarded in the year ended December 31,2005 as these stock options had an exercise price equal to the market value ofthe underlying stock at the grant date. The following table sets forth pro formainformation as if compensation cost had been determined consistent with therequirements of SFAS No. 123.

 
| Net income, as reported for year ended  December 31, 2005                                                                                                                                    |   | $       | 1,446,704 |   |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|---------|-----------|--------|
| Stock based compensation included in the  determination of net income (loss) as reported, net of related tax effects                                                                              |   | —  |      |
| Stock-based compensation expense that would  have been included in the determination of net income (loss) had the fair  value based method been applied to all awards, net of related tax effects |   | (25,921 | )         |
| Pro forma net income                                                                                                                                                                              |   | $       | 1,420,783 |   |
|                                                                                                                                                                                              |   |    |      |
| Earnings (loss) per share:                                                                                                                                                                        |   |    |      |
| Basic — as reported                                                                                                                                                                          |   | $       | 0.10      |   |
| Basic — pro forma                                                                                                                                                                            |   | $       | 0.10      |   |
|                                                                                                                                                                                              |   |    |      |
| Diluted — as reported                                                                                                                                                                        |   | $       | 0.09      |   |
| Diluted — pro forma                                                                                                                                                                          |   | $       | 0.09      |   |

 

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* *

*Refer toNote 8 - Stock* Options andStock Based Compensation for additional disclosures regarding our stockcompensation programs.

* *

***Cash andcash equivalents***

* *

Cash includesall cash and highly liquid investments with original maturities of three monthsor less.

 

***Propertyand Equipment***

* *

Property andequipment is comprised of furniture and fixtures, software, computer equipmentand leasehold improvements which are recorded at cost and depreciated using thestraight-line method over their estimated useful lives.  Expenditures for maintenance and repairs arecharged to operations as incurred. Property and equipment acquired under capital leases are depreciatedover their useful lives or the respective lease term, if shorter.  Depreciation periods used for property andequipment range from three to five years.

 

Leaseholdimprovements are depreciated over the shorter of the lease term or theestimated useful life of the asset.

 

***Sale / Disposal of Assets***

* *

During 2007,the Company disposed of equipment and software with an original price of$20,531 and accumulated depreciation of $20,531. GlobalSCAPE recognized a gainof $365 related to the disposal of these assets. During 2006, the Companydisposed of equipment and software with an original purchase price of $15,362and accumulated depreciation of $15,362. GlobalSCAPE recognized a gain of $619 related to the disposal of theseassets.  During 2005 the Company disposedof equipment and software with an original purchase price of $29,949  and accumulated depreciation of $29,949.  GlobalSCAPE recognized a gain of $1,242related to the disposal of these assets.

 

***Goodwill***

 

Asof December 31, 2006 and 2007, GlobalSCAPE had goodwill in the amount of$9,653,059 and $6,392,075, respectively, associated with the acquisition ofAvaill.  This acquisition was accountedfor using the purchase method of accounting. See Acquisitions note for adescription of the acquisition. In accordance with SFAS No. 142 *Goodwill and Other Intangible Assets*, the Company willassess the impairment of goodwill annually in the fourth quarter, or morefrequently if other indicators of potential impairment arise. There was nogoodwill as of December 31, 2005.

 

Noallocation had been made to intangible assets as of the December 31,2006.  The Company obtained a valuationreport of it’s acquisition of Availl, Inc. which determined that theacquisition included purchased software, which is an identifiable intangible asset.The purchased software had a market value of approximately $5,000,000 and thisamount has been allocated to purchased software from Goodwill effective October 1,2007. The purchased software is being amortized using the straight-line methodover its estimated useful life of 10 years.

 

***Intangible Assets***

 

**The cost of purchased intangibles and the legal andprofessional fees incurred related to patent filings and trademarks arecapitalized.  Capitalized amounts areamortized to expense using the straight-line method over the expected usefullife of the assets of three to fifteen years.**

 

***CapitalizedSoftware Development Costs***

* *

Capitalizationof software development costs begins upon the establishment of technologicalfeasibility and ceases when the product is available for general release.  The establishment of technologicalfeasibility and the ongoing assessment of recoverability of capitalizedsoftware development costs require considerable judgment by management concerningcertain external factors including, but not limited to, technologicalfeasibility, anticipated future gross revenue, estimated economic life andchanges in software and hardware technologies. These software development costs were amortized using the straight-linemethod over a three-year period and are only those costs incurred in thedevelopment of products that are sold to external customers and not used forinternal purposes.  No research anddevelopment expenses were capitalized in 2005, 

 

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2006 or 2007.  These softwaredevelopment costs are not related to those costs incurred for the acquisitionof software products or titles.  For theyears 2005, 2006 and 2007, the Company spent approximately $869,000, $1,230,000and $1,919,000, respectively, on research and development.

 

***OtherLong-Term Assets***

* *

Other assetsinclude deposits for facilities, which are anticipated to be refunded to theCompany upon termination of the lease and deferred loan costs.

 

***DeferredCompensation***

* *

*Thedeferred compensation liability is related to an employment agreement with theCompany’s President.  The deferredcompensation is subject to certain terms and conditions related to his plannedretirement in December 2008.*

* *

***OtherLong-Term Liabilities***

* *

Otherlong-term liabilities relate to deferred payments of rent expense.  The total amount of base leasepayments is being charged to expense on the straight-line method over the termof the lease.

 

***EarningsPer Common Share***

* *

Basic anddiluted net income per common share is presented in conformity with Statementof Financial Accounting Standards No. 128, *Earnings Per Share* (SFAS 128) for all periodspresented.  Basic earnings per share isbased on the weighted effect of all common shares issued and outstanding, andis calculated by dividing net income (loss) available to common stockholders bythe weighted average shares outstanding during the period.  Diluted earnings per share is calculated bydividing net income (loss) available to common stockholders by the weightedaverage number of common shares used in the basic earnings per sharecalculation plus the number of common shares that would be issued assumingconversion of all potentially dilutive common shares outstanding.  Awards of non vested options are consideredpotentially dilutive common shares for the purpose of computing earnings percommon share.  In applying the treasurystock method to non vested options the assumed proceeds include the amount theemployee must pay to exercise the option plus the amount of unrecognized costattributable to future periods less any expected tax benefits. Below is areconciliation of the numerators and denominators of basic and diluted earningsper share for each of the following years:

 
| ** **                                             | ** ** | **Year ended December 31,** | ** ** |
|--------------------------------------------------------|------------|--------------------------------------------|------------|
| ** **                                             | ** ** | **2005 (1)**                          | ** ** | **2006 (2)** | ** ** | **2007 (3)** | ** ** |
| **Numerators**                                         | ** ** | ** **                                 | ** ** | ** ** | ** ** | ** ** | ** ** |
| Numerator for basic and diluted earnings  per share:   |       |                                       |       |   |   |   |   |
| Net income                                             |       | $                                          | 1,446,704  |   | $ | 1,962,532 |   | $ | 3,642,267 |   |
| **Denominators**                                       |       |                                       |       |   |   |   |   |
| Denominators for basic earnings per share:             |       |                                       |       |   |   |   |   |
| Weighed average shares outstanding – Basic        |       | 13,778,989                                 |       | 14,744,635 |   | 17,199,618 |   |
| **Dilutive potential common shares:**                  |       |                                       |       |   |   |   |   |
| Stock options                                          |       | 1,663,535                                  |       | 1,416,204 |   | 834,493 |   |
| Warrants                                               |       | —                                     |       | — |   | 255,046 |   |
| Denominator for dilutive earnings per share            |       | 15,442,524                                 |       | 16,160,839 |   | 18,289,157 |   |
| Net income per common share                            |       | $                                          | 0.10       |   | $ | 0.13 |   | $ | 0.21 |   |
| Net income per commons share – assuming  dilution |       | $                                          | 0.09       |   | $ | 0.12 |   | $ | 0.20 |   |

* *

----

| *(1)*    | *For the year ended December 31, 2005, all  options have been included in dilutive shares.*                                                                                                                   |
|----------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| * * | * *                                                                                                                                                                                                           |
| *(2)*    | *For the year ended December 31, 2006,  100,000 options and 1,352,000 warrants have not been included in dilutive  shares as the effect would be anti-dilutive.*                                              |
| * * | * *                                                                                                                                                                                                           |
| *(3)*    | *For the year ended December 31, 2007, all  options and warrants have been included in dilutive shares and 241,000  options have not been included in dilutive shares as the effect would be  anti-dilutive.* |

 

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***Recentaccounting pronouncements***

 

Effectiveat the beginning of the first quarter of 2007, the Company adopted theprovision of FIN 48, “Accounting for Uncertainty in Income Taxes, aninterpretation of FASB Statement No. 109” (“FIN 48”).  FIN 48 contains a two-step approach torecognizing and measuring uncertain tax positions accounted for in accordancewith SFAS No. 109, “Accounting for Income Taxes.”  The first step is to evaluate the taxposition for recognition by determining if the weight of available evidenceindicates that it is more likely than not that the position will be sustainedon audit, including resolution of related appeals or litigation processes, ifany.  The second step is to measure thetax benefit as the largest amount that is more than 50% likely of beingrealized upon ultimate settlement.

 

Asa result of the implementation of FIN 48, the Company has not changed any ofits tax accrual estimates.  The Companyfiles U.S. federal and U.S. state tax returns. For state tax returns the Company is generally no longer subject to taxexaminations for years prior to 2003.

 

InSeptember 2006, the Financial Accounting Standards Board (“FASB”) issuedStatement No. 157, “Fair Value Measurements” (“FAS 157”), which addresseshow companies should measure fair value when they are required to use a fairvalue measure for recognition or disclosure purposes under generally acceptedaccounting principles (“GAAP”). As a result of FAS 157, there is now a commondefinition of fair value to be used throughout GAAP, which is expected to makethe measurement of fair value more consistent and comparable. The Company mustadopt FAS 157 in fiscal 2008, and management currently does not expect theimpact to be material to its consolidated financial statements.

 

InFebruary 2006, the FASB issued SFAS No. 155, “Accounting for CertainHybrid Financial Instruments—an amendment of FASB Statements No. 133 and140,” to permit fair value remeasurement for any hybrid financial instrumentthat contains an embedded derivative that otherwise would require bifurcationin accordance with the provisions of SFAS No. 133, “Accounting forDerivative Instruments and Hedging Activities.” The Company adopted SFAS No. 155in fiscal year 2007. SFAS 155 did not have a material impact on the Company’sconsolidated financial statements.

 

****In February 2007, the FASB issued SFAS No. 159,“The Fair Value Option for Financial Assets and Financial Liabilities”, whichpermits entities to choose to measure many financial instruments and certainother items at fair value. The objective is to improve financial reporting byproviding entities with the opportunity to mitigate volatility in reportedearnings caused by measuring related assets and liabilities differently withouthaving to apply complex hedge accounting provisions.  The statement amendsSFAS No. 115, “Accounting for Certain Investments in Debt and Equity”.****

 

InDecember 2006, the FASB issued the FASB Staff Position (FSP) No. EITF00-19-2, (“FSP EITF 00-19-2”), Accounting for Registration PaymentArrangements. This FSP addresses an issuer’s accounting for registrationpayment arrangements. This FSP specifies that the contingent obligation to makefuture payments or otherwise transfer consideration under a registrationpayment arrangement, whether issued as a separate agreement or included as aprovision of a financial instrument or other agreement, should be separatelyrecognized and measured in accordance with FASB Statement No. 5,Accounting for Contingencies. The guidance in this FSP amends FASB Statements No. 133,Accounting for Derivative Instruments and Hedging Activities, and No. 150,Accounting for Certain Financial Instruments with Characteristics of bothLiabilities and Equity, and FASB Interpretation No. 45, Guarantor’sAccounting and Disclosure Requirements for Guarantees, Including IndirectGuarantees of Indebtedness of Others, to include scope exceptions forregistration payment arrangements. This FSP further clarifies that a financialinstrument subject to a registration payment arrangement should be accountedfor in accordance with other applicable generally accepted accountingprinciples (GAAP) without regard to the contingent obligation to transferconsideration pursuant to the registration payment arrangement. This FSP shallbe effective immediately for registration payment arrangements and thefinancial instruments subject to those arrangements that are entered into ormodified subsequent to the date of issuance of this FSP, or for financialstatements issued for fiscal years beginning after December 15, 2006, andinterim periods within those fiscal years.

 

TheCompany adopted FSP EITF 00-19-2 beginning in 2007. The adoption of this FSPdid not have a material effect upon the Company’s financial statements.

 

InDecember 2007, the FASB issued SFAS No. 141 (Revised 2007), BusinessCombinations - Revised 2007. SFAS 141 R provides guidance on improving therelevance, representational faithfulness, and comparability of information thata reporting entity provides in its financial reports about a businesscombination and its effects. SFAS 141R applies to business combinations wherethe acquisition date is on or after the beginning of the first annual reportingperiod beginning on or after December 15, 2008. The Company is in theprocess of analyzing the effects SFAS 141R will have on the Company’s financialstatements.

 

InDecember 2007, the FASB also issued SFAS No. 160, NoncontrollingInterests in Consolidated Financial Statements, which establishes accountingand reporting standards to improve the relevance, comparability, andtransparency 

 

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offinancial information in its consolidated financial statements that include anoutstanding noncontrolling interest in one or more subsidiaries. SFAS 160 iseffective for fiscal years, and the interim periods within those fiscal years,beginning on or after December 15, 2008. Management of the Company doesnot expect the adoption of this pronouncement to have a material impact on itsfinancial statements.

 

In February 2007, theFASB issued Statement No. 159, “*TheFair Value Option for Financial Assets and Financial Liabilities”* (“StatementNo. 159”). Statement No. 159 permits entities to choose to measuremany financial assets and financial liabilities at fair value. Unrealized gainsand losses on items for which the fair value option has been elected arereported in earnings. Statement No. 159 is effective for fiscal yearsbeginning after November 15, 2007. The Company is currently assessing theimpact of Statement No. 159 on its financial position, results ofoperations and cash flows.

 

**2.**             Acquisitions

 

On September 22, 2006, the Company completed theacquisition of all of the issued and outstanding shares of Availl, a privatelyheld provider of Wide Area Files Systems (WAFS) and Continuous Data Protection(CDP) software, for $7.65 million in cash and $2.0 million in the form of716,846 shares of GlobalSCAPE common stock. The Company incurred directacquisition costs of approximately $127,000. In connection with theacquisition, $850,000 of the cash consideration in this acquisition was placedinto an escrow account for purposes of settling indemnification claims for theeighteen-month period following the closing. In accordance with EITF Issue No. 99-12,*Determination of the Measurement Date for theMarket Price of Acquirer Securities Issued in a Purchase Business Combination*,the Company has used $2.79 as the per share amount to value the common stockconsideration paid to Availl shareholders (representing the average of theclosing prices of GlobalSCAPE’s common stock for the thirty days before themerger agreement date of September 22, 2006). Pursuant to the terms of theacquisition, the Company granted stock options to the former Availlstockholders who were also employees under the GlobalSCAPE, Inc. 2000Stock Option Plan. Exercising the options under this plan is contingent uponthe individual’s continued employment with the Company and will be vested overthree years in three annual installments.

 

The Availl acquisition was accounted for using the purchasemethod of accounting. The purchase price was paid on the September 22,2006 closing date.  The purchase priceincludes a provision for the former Availl stockholders to earn up to anadditional $100,000 in cash depending upon the achievement of certain revenuetargets for Availl for the third and fourth quarters of 2006. Since the revenuetargets were not attained, no additional payments were required.

 

Goodwill represents the excess of the purchase price over thefair value of the net identifiable assets acquired. This premium paid for theacquisitions is based on management’s belief that the acquired technologies,businesses and engineering talent were of strategic importance in the Company’sgrowth strategy. Operating results from the acquired business is included inthe consolidated statements of operations from the date of acquisition.

 

A summary of the purchase price allocation is as follows:

 
| ** **                                                                                   | ** ** | **Availl** | ** ** |
|----------------------------------------------------------------------------------------------|------------|------------|------------|
| Purchase price –                                                                        |       |       |       |
| Cash paid                                                                                    |       | $          | 7,650,000  |   |
| Stock issued                                                                                 |       | 2,000,000  |       |
| Legal and other acquisition costs                                                            |       | 126,931    |       |
| Acquisition costs                                                                            |       | 9,776,931  |       |
| Net fair value of tangible assets acquired  and liabilities assumed                          |       | (123,872   | )          |
|                                                                                         |       |       |       |
| Excess of cost over net fair value of  tangible assets acquired                              |       | 9,653,059  |       |
| Purchase price adjustment in 2007                                                            |       | 148,696    |       |
| Adjusted access of cost over fair value of  tangible assets acquired and liabilities assumed |       | 9,801,755  |       |
|                                                                                         |       |       |       |
| Software acquired                                                                            |       | 5,000,000  |       |
| Customer list acquired                                                                       |       | 180,000    |       |
| Patent acquired                                                                              |       | 26,000     |       |
| Deferred tax liability related to  intangible assets                                         |       | 1,796,320  |       |
|                                                                                         |       |       |       |
| Goodwill at December 31, 2007                                                           |       | $          | 6,392,075  |   |

 

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Thenet fair value of assets acquired and liabilities assumed of Availl at theacquisition date was as follows:

 
| Cash                                                       |   | $        | 191,276 |   |
|------------------------------------------------------------|--------|----------|---------|--------|
| Accounts receivable, net                                   |   | 553,798  |    |
| Fixed Assets                                               |   | 26,411   |    |
| Other Assets                                               |   | 13,555   |    |
|                                                       |   |     |    |
| Accounts payable and accrued expenses                      |   | (226,719 | )       |
| Deferred tax liability                                     |   | (71,693  | )       |
| Deferred revenue                                           |   | (362,756 | )       |
|                                                       |   |     |    |
| Net fair value of assets acquired and  liabilities assumed |   | $        | 123,872 |   |

 

Intangible assets represent amounts acquired in theacquisition of Availl, Inc. as consist of the following as of December 31,2007:

 
| ** **                     | ** ** | **Gross Carrying** | ** ** | **Accumulated**  | ** ** | ** **            | ** ** |
|--------------------------------|------------|-------------------------|------------|------------------|------------|-----------------------|------------|
| ** **                     | ** ** | **Amount**              | ** ** | **Amortization** | ** ** | **Life (Years)** | ** ** |
| Amortized intangible assets:   | ** ** | ** **              | ** ** | ** **       | ** ** | ** **            | ** ** |
| Software acquired              |       | $                       | 5,000,000  |             | $          | 125,000               |       | 10 |   |
| Customer list acquired         |       | 180,000                 |       | 9,000            |       | 5                     |       |
| Patent acquired                |       | 26,000                  |       | 360              |       | 18                    |       |
| Total                          |       | $                       | 5,206,000  |             | $          | 134,360               |       |   |   |
|                           |       |                    |       |             |       |                  |       |
| Estimated Amortization Expense |       |                    |       |             |       |                  |       |
| For Year-ended 12/31/2008      |       |                    |       | $                | 537,444    |                  |       |   |
| For Year-ended 12/31/2009      |       |                    |       | 537,444          |       |                  |       |
| For Year-ended 12/31/2010      |       |                    |       | 537,444          |       |                  |       |
| For Year-ended 12/31/2011      |       |                    |       | 537,444          |       |                  |       |
| For Year-ended 12/31/2012      |       |                    |       | 528,444          |       |                  |       |
| Thereafter                     |       |                    |       | 2,393,420        |       |                  |       |
| Total                          |       |                    |       | $                | 5,071,640  |                  |       |   |

 

The following unaudited pro forma financial informationpresents the results of operations for the years ended December 31, 2005and 2006 as if the acquisition had occurred at the beginning of each periodpresented. The pro forma financial information has been adjusted for the effectof interest paid on the term loan. The pro forma financial information for thecombined entities has been prepared for comparative purposes only and is notindicative of what actual results would have been if the acquisitions had takenplace at the beginning of each period presented, or of future results.

 

| ** **                                                         | ** ** | **Year Ended December 31,** | ** ** |
|--------------------------------------------------------------------|------------|--------------------------------------------|------------|
| **(in thousands, except per share data)** | ** ** | **2005**                                   | ** ** | **2006** | ** ** |
| Pro forma net  revenues                                            |       | $                                          | 7,981      |   | $ | 12,088 |   |
| Pro forma net  income                                              |       | 895                                        |       | 1,664 |   |
|                                                               |       |                                       |       |   |   |
| Pro forma net  income per share:                                   |       |                                       |       |   |   |
| Basic                                                              |       | $                                          | 0.06       |   | $ | 0.11 |   |
| Diluted                                                            |       | $                                          | 0.06       |   | $ | 0.10 |   |

 

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**3.**             Accounts Receivable

** **

Accountsreceivable, which are primarily from sales of software licenses, are presentednet of an allowance for doubtful accounts. The activity of the Company’s allowance for doubtful accounts for theyears ended December 31, 2005, 2006 and 2007 is presented in the followingtable:

 
| ** **          | ** ** | **Balance at** | ** ** | **Charged to** | ** ** | ** **              | ** ** | **Balance**     | ** ** |
|---------------------|------------|---------------------|------------|---------------------|------------|-------------------------|------------|-----------------|------------|
| **Year Ended** | ** ** | **Beginning**       | ** ** | **Income or**  | ** ** | ** **              | ** ** | **End of** | ** ** |
| **31-Dec**          | ** ** | **of Period**  | ** ** | **Expense**         | ** ** | **Deductions (1)** | ** ** | **Period**      | ** ** |
|                |       |                |       |                |       |                    |       |            |       |
| 2005                |       | $                   | 10,195     |                | $          | 8,231                   |       | $               | (6,153     | ) | $ | 12,273 |   |
| 2006                |       | $                   | 12,273     |                | $          | 48,214                  |       | $               | (1,029     | ) | $ | 59,458 |   |
| 2007                |       | $                   | 59,458     |                | $          | 128,816                 |       | $               | (75,073    | ) | $ | 113,201 |   |

 

----

(1)  Represents amounts written off as uncollectible accounts receivable.

 

**4.**             Debt

 

On September 22, 2006,the company obtained a $5,000,000 term loan from Silicon Valley Bank.  The term loan was used to finance part of thecash portion of the purchase price of the Availl acquisition. The initialinterest rate is 9.5% and is subject to change as the bank’s prime ratechanges. Interest and principal were payable in 36 equal monthly installmentson the first day of each calendar month beginning October 1, 2006.  The Company made a $3.2 millionrepayment under the term loan in January 2007 plus a $0.5 millionrepayment in February 2007. There was no loan balance at December 31,2007.

 

 The Loan Agreement contains customary covenants including covenantsrelating to maintaining legal existence and good standing, complying withapplicable laws, delivery of financial statements, maintenance of inventory,payment of taxes, maintaining insurance, and protection of intellectualproperty rights.  GlobalSCAPE and itssubsidiaries are also prohibited from selling any of their assets other than inthe ordinary course of business, acquiring any other entities, changing thetypes of business they are engaged in, incurring indebtedness other than thatpermitted by the Loan Agreement, incurring any liens on their assets other thanthose permitted by the Loan Agreement, making certain investments or paying anydividends on, or acquiring, any shares of their capital stock.  The Loan Agreement contains two financialcovenants.  GlobalSCAPE and itssubsidiaries must maintain:

 

·                  a ratio of(A) EBITDA less the sum of (i) cash taxes paid and (ii) non-financedcapital expenditures (excluding non-cash stock options and taxes alreadyaccrued), to (B) the sum of (i) principal plus (ii) interestpaid to Bank, of at least 1.5 to 1.00; and

 

·                  a ratio oftotal funded debt to EBITDA of not more than 2.00 to 1.00.

 

The loan agreement also containscustomary events of default including the failure to make payments of principaland interests, the breach of any covenants, the occurrence of a materialadverse change, certain bankruptcy and insolvency events, the breach of otheragreements creating indebtedness of $50,000 or more and the entry of a judgmentof $50,000 or more against GlobalSCAPE or any of its subsidiaries. The Companyfailed the first of the two covenants at December 31, 2006 and obtained awaiver from the Bank. The Company is in compliance with all of its debtcovenants at December 31, 2007.

 

The loanagreement provides for a $750,000 revolving credit facility. The entire amountof the revolving credit facility remains available.  Borrowings under the revolving creditfacility bear interest at 1.00% above the bank’s prime rate and mature on September 22,2008.  Interest payments are due on thefirst day of each calendar month. The revolving credit facility is secured bysubstantially all of the assets of GlobalSCAPE and its subsidiaries.

 

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**5.**             Commitments andContingencies

 

**OperatingLeases**

** **

Minimum futurelease payments on non-cancelable operating leases for office facilities are asfollows for the years ending December 31:

 
| 2008       |   | $         | 578,181   |   |
|------------|--------|-----------|-----------|--------|
| 2009       |   | 606,465   |      |
| 2010       |   | 538,587   |      |
| 2011       |   | 551,015   |      |
| 2012       |   | 565,670   |      |
| Thereafter |   | 3,823,263 |      |
| Total      |   | $         | 6,663,181 |   |

 

Operatinglease expense amounted to approximately $179,000 in 2005, $188,000 in 2006 and$235,000 in 2007.

 

**Contingencies**

 

TheCompany from time to time may be involved in litigation relating to claimsarising out of its ordinary course of business. There are no pending claims against the Company that would have amaterial adverse effect on the financial statements of the Company.

 

**6.**             Income Taxes

** **

The provisionfor income taxes on income before income taxes consists of:

 
| ** ** | ** ** | **Federal** | ** ** | **State** | ** ** | **Total** | ** ** |
|------------|------------|-------------|------------|-----------|------------|-----------|------------|
| 2005       |       |        |       |      |       |      |       |
| Current    |       | $           | 9,981      |      | $          | —    |       | $ | 9,981 |   |
| Deferred   |       | —      |       | —    |       |      |       |
| Total      |       | $           | 9,981      |      | $          | —    |       | $ | 9,981 |   |
|       |       |        |       |      |       |      |       |
| 2006       |       |        |       |      |       |      |       |
| Current    |       | $           | 1,000,085  |      | $          | 3,533     |       | $ | 1,003,618 |   |
| Deferred   |       | —      |       | —    |       | —    |       |
| Total      |       | $           | 1,000,085  |      | $          | 3,533     |       | $ | 1,003,618 |   |
|       |       |        |       |      |       |      |       |
| 2007       |       |        |       |      |       |      |       |
| Current    |       | $           | 1,853,968  |      | $          | 114,054   |       | $ | 1,968,022 |   |
| Deferred   |       | 314,905     |       | —    |       | 314,905   |       |
| Total      |       | $           | 2,168,873  |      | $          | 114,054   |       | $ | 2,282,928 |   |

 

Deferredincome taxes reflect the net tax effects of temporary differences between thecarrying amounts of assets and liabilities for financial reporting purposes andthe amounts used for income tax purposes. Significant components of the Company’s deferred tax assets andliabilities are related to the following:

 
| ** **                                  | ** ** | **2005** | ** ** | **2006** | ** ** | **2007**   | ** ** |
|---------------------------------------------|------------|----------|------------|----------|------------|------------|------------|
| Deferred tax liabilities:                   |       |     |       |     |       |       |       |
| Cash method to accrual adjustment           |       | $        | —     |     | $          | (91,884    | )          | $ | (45,942 | ) |
| Intangible assets                           |       | —   |       | —   |       | (1,750,637 | )          |
| Depreciation                                |       | —   |       | —   |       | (3,427     | )          |
| Total deferred tax liabilities              |       | $        | —     |     | $          | (91,884    | )          | $ | (1,800,006 | ) |
|                                        |       |     |       |     |       |       |       |
| Deferred tax assets:                        |       |     |       |     |       |       |       |
| Accrued expenses                            |       | 14,828   |       | 20,326   |       | 34,587     |       |
| Allowance for doubtful accounts             |       | 4,173    |       | 20,216   |       | 38,488     |       |
| Deferred compensation                       |       | 4,121    |       | 17,846   |       | 56,338     |       |
| Depreciation and amortization               |       | 28,861   |       | 7,491    |       | —     |       |
| Net operating loss carryforwards            |       | —   |       | 34,729   |       | —     |       |
| Total deferred tax assets                   |       | 51,983   |       | 100,608  |       | 129,413    |       |
| Valuation allowance for deferred tax assets |       | —   |       | —   |       | —     |       |
| Net deferred tax liabilities                |       | $        | 51,983     |     | $          | 8,724      |       | $ | 1,670,593 |   |

 

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The netdeferred income tax liability is classified in the balance sheets as follows:

 
| ** **            | ** ** | **2005** | ** ** | **2006** | ** ** | **2007**   | ** ** |
|-----------------------|------------|----------|------------|----------|------------|------------|------------|
|                  |       |     |       |     |       |       |       |
| Current assets        |       | $        | 51,983     |     | $          | 8,724      |       | $ | 80,044 |   |
| Long term liabilities |       | —   |       | —   |       | (1,750,637 | )          |
|                       |            |          |            |          |            |            |            |  |  |  |

 

Areconciliation of income tax expense and the amount computed by applying thestatutory federal income tax rate (34%) to income before income taxes is asfollows:

 
| ** **                                                                                                 | ** ** | **2005** | ** ** | **2006** | ** ** | **2007**  | ** ** |
|------------------------------------------------------------------------------------------------------------|------------|----------|------------|----------|------------|-----------|------------|
| Taxes computed at federal statutory rate                                                                   |       | $        | 494,911    |     | $          | 1,007,289 |       | $ | 2,014,564 |   |
|                                                                                                       |       |     |       |     |       |      |       |
| Increases in taxes resulting from:                                                                         |       |     |       |     |       |      |       |
| State taxes, net of federal benefit                                                                        |       | 703      |       | 2,333    |       | 75,276    |       |
| Other non-deductible expenses                                                                              |       | 5,653    |       | 2,142    |       | 19,715    |       |
| Change in valuation allowance                                                                              |       | (484,853 | )          | —   |       | —    |       |
| Research & Development Credit                                                                     |       |     |       | (10,000  | )          | 17,167    |       |
| Amortization of intangible Assets                                                                          |       | —   |       | —   |       | 45,683    |       |
| Prior period adjustment for EIE Exclusion,  Research & Development Credit and Amended Tax Returns |       | —   |       | —   |       | (130,976  | )          |
| Stock based compensation                                                                                   |       | —   |       | —   |       | 325,925   |       |
| Other                                                                                                      |       | (6,433   | )          | 1,854    |       | (38,743   | )          |
| Total                                                                                                      |       | $        | 9,981      |     | $          | 1,003,618 |       | $ | 2,282,928 |   |

 

**7.**             Employee Benefit Plan

 

The Companyhas a 401(k) plan that covers substantially all employees with at leastsix months of service.  Under the plan,employees may elect to contribute a percentage of their annual salary subjectto the Internal Revenue Code maximum limitations.  The plan provides for employer matching anddiscretionary contributions, the amounts of which are to be determined annuallyby the Board of Directors.  The Companymade contributions to the plan of $15,864, $16,296 and $27,523 for the yearsended December 31, 2005, 2006 and 2007, respectively.

 

**8.**             Stock Options andStock Based Compensation

 

GlobalSCAPE has stock-basedcompensation plans available to grant incentive stock options to employees.Under the GlobalSCAPE, Inc. 2000 Stock Option Plan (the Plan), which wasapproved by the Board of Directors and became effective on May 17, 2001, amaximum of 3,660,000 shares of GlobalSCAPE common stock may be awarded. ThroughDecember 31, 2007 options have been granted for approximately 2,780,000shares, net of granted and cancelled. There are approximately 880,000 sharesavailable for grant under the 2000 Plan.

 

The exercise price, term and otherconditions applicable to each stock option granted under the Plan are generallydetermined by the Board of Directors. The exercise price of stock options isset on the grant date and may not be less than the fair market value per shareof our stock on that date. The options generally become exercisable over athree-year period and expire after ten years.

 

There was $497,895 of compensationcost related to stock options recognized in operating results in the year endedDecember 31, 2006, and $937,546 recognized in 2007.

 

The following table summarizesinformation about stock option activity through the year ended December 31,2007.

 

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| ** **                            | ** ** | ** **         | ** ** | **Weighted**              | ** ** | **Weighted Average**      | ** ** | **Aggregate**       | ** ** |
|---------------------------------------|------------|--------------------|------------|---------------------------|------------|--------------------------------|------------|---------------------|------------|
| ** **                            | ** ** | **Number of** | ** ** | **Average Exercise** | ** ** | **Remaining Contractual** | ** ** | **Intrinsic**       | ** ** |
| ** **                            | ** ** | **Options**        | ** ** | **Price**                 | ** ** | **Term (years)**          | ** ** | **Value ($M)** | ** ** |
|                                  |       |               |       |                      |       |                           |       |                |       |
| Outstanding at December 31, 2004 |       | 1,970,071          |       | $                         | 0.24       |                           | 6.50       |                | —     |   |
| 2005                                  |       |               |       |                      |       |                           |       |                |       |
| Granted                               |       | 469,000            |       | 0.32                      |       |                           |       |                |       |
| Expired                               |       | 20,000             |       | 0.16                      |       |                           |       |                |       |
| Exercised                             |       | 24,900             |       | 0.36                      |       |                           |       |                |       |
| Outstanding at December 31, 2005 |       | 2,394,171          |       | $                         | 0.25       |                           | 6.50       |                | $          | 2.06 |   |
| 2006                                  |       |               |       |                      |       |                           |       |                |       |
| Granted                               |       | 935,000            |       | 2.81                      |       |                           |       |                |       |
| Exercised                             |       | 623,181            |       | 0.05                      |       |                           |       |                |       |
| Lapsed or canceled                    |       | 225,350            |       | 1.47                      |       |                           |       |                |       |
| Outstanding at December 31, 2006 |       | 2,480,640          |       | $                         | 1.16       |                           | 7.25       |                | $          | 4.34 |   |
| 2007                                  |       |               |       |                      |       |                           |       |                |       |
| Granted                               |       | 456,000            |       | 3.45                      |       |                           |       |                |       |
| Exercised                             |       | 1,067,079          |       | 0.64                      |       |                           |       |                |       |
| Lapsed or canceled                    |       | 135,033            |       | 3.07                      |       |                           |       |                |       |
|                                  |       |               |       |                      |       |                           |       |                |       |
| Outstanding at December 31, 2007 |       | 1,734,528          |       | $                         | 1.94       |                           | 7.64       |                | $          | 6.17 |   |
|                                  |       |               |       |                      |       |                           |       |                |       |
| Exercisable at December 31, 2007 |       | 722,985            |       | $                         | 0.95       |                           | 6.74       |                | $          | 3.29 |   |

 

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The weighted average fair value ofoptions granted during the year ended December 31, 2007 was $2.64. Thetotal intrinsic value of options (which is the amount by which the stock priceexceeded the exercise price of the options on the date of exercise) exercisedduring the year ended December 31, 2007 was $3,694,476. During the yearended December 31, 2007, the amount of cash received from the exercise ofstock options was $681,656. The following table summarizes information aboutnonvested stock option awards as of December 31, 2007 and changes for theyear.

 
| ** **                           | ** ** | **Number**  | ** ** | **Weighted Average** | ** ** |
|--------------------------------------|------------|-------------|------------|---------------------------|------------|
| ** **                           | ** ** | **Of**      | ** ** | **Grant Date**       | ** ** |
| ** **                           | ** ** | **Options** | ** ** | **Fair Value**       | ** ** |
| Non-vested at December 31, 2006 |       | 1,180,580   |       | $                         | 1.52       |   |
| Granted                              |       | 456,000     |       | $                         | 2.64       |   |
| Vested                               |       | (490,004    | )          | $                         | 1.52       |   |
| Forfeited                            |       | (135,033    | )          | $                         | 2.60       |   |
| Non-vested at December 31, 2007 |       | 1,011,543   |       | $                         | 2.22       |   |

 

At December 31, 2007, therewas $1,504,345 of total unrecognized compensation cost related to non-vestedstock option awards which is expected to be recognized over a weighted-averageperiod of 3 years. There were 490,004 options that became vested during theyear ended December 31, 2007.

 

The following table showsinformation about outstanding stock options at December 31, 2007.

 
| ** **               | ** ** | ** **      | ** ** | **Options Outstanding** | ** ** | **Options Exercisable** | ** ** |
|--------------------------|------------|-----------------|------------|------------------------------|------------|------------------------------|------------|
| ** **               | ** ** | ** **      | ** ** | **Weighted**                 | ** ** | ** **                   | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **               | ** ** | ** **      | ** ** | **Average**                  | ** ** | **Weighted**                 | ** ** | ** ** | ** ** | **Weighted** | ** ** |
| ** **               | ** ** | ** **      | ** ** | **Remaining**                | ** ** | **Average**                  | ** ** | ** ** | ** ** | **Average** | ** ** |
| **Range of**        | ** ** | **Options**     | ** ** | **Contractual**              | ** ** | **Exercise**                 | ** ** | **Number of** | ** ** | **Exercise** | ** ** |
| **Exercise Prices** | ** ** | **Outstanding** | ** ** | **Life**                     | ** ** | **Price**                    | ** ** | **Options** | ** ** | **Price** | ** ** |
| $ .01 -  $1.00      |       | 675,461         |       | 6.4                          |       | $                            | 0.29       |   | 518,484 |   | $ | 0.28 |   |
| $ 1.01 -  $2.00     |       | 100,000         |       | 7.6                          |       | $                            | 1.10       |   | 33,000 |   | $ | 1.10 |   |
| $ 2.01 -  $3.00     |       | 210,000         |       | 8.0                          |       | $                            | 2.72       |   | 69,300 |   | $ | 2.72 |   |
| $ 3.01 -  $4.25     |       | 749,067         |       | 8.7                          |       | $                            | 3.32       |   | 102,201 |   | $ | 3.11 |   |
|                     |       | 1,734,528       |       | 7.6                          |       | $                            | 1.94       |   | 722,985 |   | $ | 0.95 |   |

 

**9.****            ****Common Stock and Warrants**

 

**On November 13,2006, the Company entered into a securities purchase agreement with accreditedinvestors, who paid us an aggregate of $3.4 million in gross proceeds inconsideration for 1,352,000 shares of our common stock at a price of $2.50 pershare.  The Company also granted warrantsto purchase 1,352,000 shares of our common stock to the investors with anexercise price of $3.15 per share.**

 

**The warrantshave a 5-year term and will be exercisable beginning May 15, 2007.**  As part of the securities purchase agreement the Company was required tofile a registration statement to register the common stock and warrants. Thisregistration was declared effective on April 15, 2007.

 

**During 2007,the Company issued 35,000 common shares in exchange for warrants for 85,000shares on a net share settlement for which the company received no proceeds.**

 

Thereis an adjustment provision in which the warrant’s exercise price can be reducedto a minimum of $2.81 (which could reduce cash proceeds by $459,680 to$3,799,120) in the event that from November 13, 2006 (the closing date) tosix months later (or May 13, 2007) the Company issues or is deemed toissue additional shares of Common Stock for a consideration per share less thanthe Exercise Price in effect immediately prior to the issuance of such shares,the Exercise Price shall be reduced by the Company to the price equal to theconsideration per share received or receivable.

 

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**10.**          Quarterly FinancialInformation (unaudited)

 
| ** **                                           | ** ** | **Fiscal Year 2006** | ** ** |
|------------------------------------------------------|------------|--------------------------------|------------|
| ** **                                           | ** ** | **1st Quarter**           | ** ** | **2nd Quarter** | ** ** | **3rd Quarter** | ** ** | **4th Quarter** | ** ** |
|                                                 |       |                           |       |   |   |   |   |   |   |
| Total revenues                                       |       | $                              | 2,414,923  |   | $ | 2,445,327 |   | $ | 2,603,236 |   | $ | 3,510,195 |   |
| Total operating expenses                             |       | $                              | 1,605,516  |   | $ | 1,723,395 |   | $ | 1,792,007 |   | $ | 2,819,509 |   |
| Other Income (expense)                               |       | $                              | 14,352     |   | $ | 22,902 |   | $ | 21,412 |   | $ | (125,770 | ) |
| Net income (loss) before provision for  income taxes |       | $                              | 823,759    |   | $ | 744,834 |   | $ | 832,641 |   | $ | 564,916 |   |
| Net income (loss)                                    |       | $                              | 548,932    |   | $ | 500,056 |   | $ | 538,085 |   | $ | 375,459 |   |
|                                                 |       |                           |       |   |   |   |   |   |   |
| Net income (loss) per share:                         |       |                           |       |   |   |   |   |   |   |
| Basic                                                |       | $                              | 0.04       |   | $ | 0.03 |   | $ | 0.04 |   | $ | 0.02 |   |
| Diluted                                              |       | $                              | 0.03       |   | $ | 0.03 |   | $ | 0.03 |   | $ | 0.02 |   |
| Weighted average shares outstanding:                 |       |                           |       |   |   |   |   |   |   |
| Basic                                                |       | 14,284,348                     |       | 14,379,061 |   | 14,484,319 |   | 15,821,575 |   |
| Diluted                                              |       | 15,971,013                     |       | 15,081,666 |   | 15,891,298 |   | 17,251,219 |   |

 
| ** **                                    | ** ** | **Fiscal Year 2007** | ** ** |
|-----------------------------------------------|------------|--------------------------------|------------|
| ** **                                    | ** ** | **1st Quarter**           | ** ** | **2nd Quarter** | ** ** | **3rd Quarter** | ** ** | **4th Quarter** | ** ** |
|                                          |       |                           |       |   |   |   |   |   |   |
| Total revenues                                |       | $                              | 3,623,147  |   | $ | 6,418,025 |   | $ | 3,900,300 |   | $ | 4,418,869 |   |
| Total operating expenses                      |       | $                              | 2,826,217  |   | $ | 3,233,719 |   | $ | 3,098,065 |   | $ | 3,304,351 |   |
| Other Income (expense)                        |       | $                              | (62,902    | ) | $ | 9,743 |   | $ | 41,540 |   | $ | 38,823 |   |
| Net income before provision for income  taxes |       | $                              | 734,028    |   | $ | 3,194,049 |   | $ | 843,775 |   | $ | 1,153,341 |   |
| Net income (loss)                             |       | $                              | 473,214    |   | $ | 2,114,876 |   | $ | 702,875 |   | $ | 351,300 |   |
|                                          |       |                           |       |   |   |   |   |   |   |
| Net income (loss) per share:                  |       |                           |       |   |   |   |   |   |   |
| Basic                                         |       | $                              | 0.03       |   | $ | 0.12 |   | $ | 0.04 |   | $ | 0.02 |   |
| Diluted                                       |       | $                              | 0.03       |   | $ | 0.12 |   | $ | 0.04 |   | $ | 0.02 |   |
| Weighted average shares outstanding:          |       |                           |       |   |   |   |   |   |   |
| Basic                                         |       | 17,183,552                     |       | 17,204,922 |   | 17,161,519 |   | 17,293,946 |   |
| Diluted                                       |       | 17,972,115                     |       | 18,036,354 |   | 18,108,829 |   | 18,872,912 |   |

 

## **11.**          SubsequentEvents

## ** **

In March 2008,we announced the retirement of our President and Chief Executive Officer,Charles R. Poole. During the fall of 2007, the Board of Directors beganhaving discussions with Mr. Poole, relating to his potential retirement orreduction in his day-to-day role at December 31, 2008, when his currentcontract expires, and the necessary steps for succession of the CEO position.At this time,  the Board also beganfocusing on some longer-term projects designed to continue the Company’s growthand profitability. We believe that the future success of our business will bedependent upon our ability to improve our current products and to introduce newproducts, through research and development, innovations by our employees,strategic partnerships, and acquisitions.  As a result of the longer termnature of the Board’s areas of focus for 2008 and Mr. Poole’s wishes, itbecame apparent to the Board that that it would be in the best interest of theCompany and its shareholders that Mr. Poole not spearhead our moreproduct-focused initiatives if he were not available to see them throughimplementation. As a result, on March 7, we accepted Mr. Poole’sdecision to retire early. Kelly E. Simmons, our CFO, was named interimPresident and we began to accelerate the search for Mr. Poole’sreplacement..

 

On May 22, 2007, the Company announced that its Board of Directorsauthorized the repurchase of up to $3 million of the company’s outstandingcommon shares. The repurchase plan is designed to increase shareholders’ valueand reduce the dilutive effect of GlobalSCAPE’s stock option plans. The stockrepurchase authorization has an expiration date of May 22, 2008 with therepurchase activity tied to such factors as cash generation from operations,current stock price, and other factors. GlobalSCAPE may repurchase shares fromtime to time on the open market or in private transactions, includingstructured transactions. This program may be modified or discontinued at anytime. From January 1, 2008 through March 19, 2008, the Company spent$978,382 under this program to acquire 263,708 shares of the company’soutstanding common stock. Since the inception of the program, the Company hasspent $1,505,884 under this program to acquire 423,581 shares of the company’soutstanding common stock.

 

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**12.****          Restatement of FinancialStatements**

 

TheCompany has restated its 2007 financial statements from the amounts previouslyreported by the filing this amended Annual Report on Form 10-K. Therestatements include adjustments (a) to record a deferred tax liability, (b) todecrease previously recorded deferred tax assets (c) adjust income taxesand (d) adjust additional paid in capital. Following is a summary of therestatement adjustments:

 
| ** **                                      | ** ** | **As**       | ** ** | ** **      | ** ** | **As**       | ** ** |
|-------------------------------------------------|------------|--------------|------------|-----------------|------------|--------------|------------|
| ** **                                      | ** ** | **Reported** | ** ** | **Adjustments** | ** ** | **Restated** | ** ** |
| 2007 Summary Balance Sheet                      |       |         |       |            |       |         |       |
| Current Assets                                  |       | $            | 7,658,044  |            | 817,343    |         | $          | 8,475,387 |   |
| Property and equipment (net)                    |       | 262,745      |       | —          |       | 262,745      |       |
| Intangible assets, net                          |       | 5,071,640    |       | —          |       | 5,071,640    |       |
| Goodwill                                        |       | 4,595,755    |       | 1,796,320       |       | 6,392,075    |       |
| Deferred tax asset                              |       | 440,632      |       | (360,588        | )          | 80,044       |       |
| Other assets                                    |       | 79,967       |       | —          |       | 79,967       |       |
| Total Assets                                    |       | $            | 18,108,783 |            | $          | 2,253,075    |       | $ | 20,361,858 |   |
|                                            |       |         |       |            |       |         |       |
| Current Liabilities:                            |       |         |       |            |       |         |       |
| Accounts payable                                |       | $            | 329,817    |            | —     |         | $          | 329,817 |   |
| Accrued expenses                                |       | 742,946      |       | —          |       | 742,946      |       |
| Deferred revenue                                |       | 2,329,117    |       | —          |       | 2,329,117    |       |
| Total current liabilities                       |       | 3,401,880    |       | —          |       | 3,401,880    |       |
| Long-term liabilities                           |       | 119,711      |       | —          |       | 119,711      |       |
| Deferred tax liability                          |       | —       |       | 1,750,637       |       | 1,750,637    |       |
| Stockholders’ equity:                      |       |         |       |            |       |         |       |
| Preferred stock                                 |       | —       |       | —          |       | —       |       |
| Common stock                                    |       | 17,432       |       | —          |       | 17,432       |       |
| Treasury stock                                  |       | (527,398     | )          | —          |       | (527,398     | )          |
| Additional paid in capital                      |       | 7,981,620    |       | 782,680         |       | 8,764,300    |       |
| Retained earnings                               |       | 7,115,538    |       | (280,242        | )          | 6,835,296    |       |
| Total liabilities and stockholders’ equity |       | $            | 18,108,783 |            | $          | 2,253,075    |       | $ | 20,361,858 |   |

 
| ** **                                                                            | ** ** | **As**       | ** ** | ** **      | ** ** | **As**       | ** ** |
|---------------------------------------------------------------------------------------|------------|--------------|------------|-----------------|------------|--------------|------------|
| ** **                                                                            | ** ** | **Reported** | ** ** | **Adjustments** | ** ** | **Restated** | ** ** |
| 2007 Summary Consolidated Statement of Operations                                     |       |         |       |            |       |         |       |
| Software Product Revenues                                                             |       | $            | 14,826,197 |            | $          | —       |       | $ | 14,826,197 |   |
| Maintenance and support (net of deferred  revenues)                                   |       | 3,534,144    |       | —          |       | 3,534,144    |       |
| Total Revenues                                                                        |       | 18,360,341   |       |            |       | 18,360,341   |       |
| Operating expenses                                                                    |       |         |       |            |       |         |       |
| Cost of revenues (exclusive of depreciation  and amortization shown seperately below) |       | 250,439      |       | —          |       | 250,439      |       |
| Selling, general and administrative  expenses                                         |       | 10,049,430   |       | —          |       | 10,049,430   |       |
| Research and development expenses                                                     |       | 1,919,253    |       | —          |       | 1,919,253    |       |
| Depreciation and amortization                                                         |       | 279,573      |       | —          |       | 279,573      |       |
| Total operating expenses                                                              |       | 12,498,695   |       |            |       | 12,498,695   |       |
| Income from operations                                                                |       | 5,861,646    |       |            |       | 5,861,646    |       |
| Other income (expense)                                                                |       | 63,549       |       | —          |       | 63,549       |       |
| Income before income taxes                                                            |       | 5,925,195    |       |            |       | 5,925,195    |       |
| Income tax provision                                                                  |       | 2,002,686    |       | 280,242         |       | 2,282,928    |       |
| Net Income                                                                            |       | $            | 3,922,509  |            | $          | (280,242     | )          | $ | 3,642,267 |   |
|                                                                                  |       |         |       |            |       |         |       |
| Basic per common share                                                                |       | $            | 0.23       |            |       |         | $          | 0.21 |   |
| Diluted per common share                                                              |       | $            | 0.21       |            |       |         | $          | 0.20 |   |

 

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## **Item 9.**    Changesin and Disagreements with Accountants on Accounting and Financial Disclosure

## ** **

###### **None.**

###### ** **

###### **Item 9A (T).**          Controls and Procedures

###### ** **

**Conclusion Regarding the Effectiveness ofDisclosure Controls and Procedures**

** **

During a test by ourindependent auditors, PMB Helin Donovan, L.L.P., the independent auditors notedsome inconsistencies in the method that was used to account for stock optioncompensation expense which had been prepared by a third party firm hired tohelp us prepare our federal income tax return.  The Company decided thatin order to thoroughly investigate the matter it should hire a new independenttax preparation firm to assist in the investigation of the proper treatment ofstock based compensation.  In addition,as part of the engagement the new firm was tasked with reviewing the entire taxprovision calculation appearing in the Company’s financial statements.  The new tax firm discovered that stock basedcompensation expense had previously not been treated properly for tax purposesand also that appropriate deferred tax balances had not been established forthe intangible assets acquired with Availl. Based upon these discoveries, we evaluated the design and operation ofour disclosure controls and procedures as of December 31, 2007 todetermine whether they were effective in ensuring that we disclose the requiredinformation in a timely manner and in accordance with the Securities ExchangeAct of 1934, as amended, or the Exchange Act, and the rules and forms ofthe Securities and Exchange Commission.  Management, including ourprincipal executive officer, supervised and participated in theevaluation.  Our principal executive officer and principal financialofficer concluded based on their review that:

 

·      We had previously not treatedthe recorded stock compensation expense as a permanent difference whenreconciling book income with taxable income which would have increased ourincome tax expense.

 

·      We had previously not takenthe appropriate deductions allowed when an employee exercised his or her stockoptions and then subsequently sold the shares of stock.

 

·      The appropriate deferred taxliabilities were not calculated and booked at the time of the Availlacquisition in 2006.

 

Our review was concluded in August 2008,after the filing of our 10-K for the 2007 fiscal year and after the filing ofour 10-Q for the quarter ended March 31, 2008 but before the filing of our10-Q for the quarter ended June 30, 2008.  As a result of ourevaluation, we concluded that our yearend financial statements for 2007 wouldrequire approximately a $2.2 million increase in total assets in our balancesheet and an increase in the income tax provision of approximately $280,000 onour income statement.  Following discussions regarding the matterwith our independent auditors and our audit committee the amounts of theadjustment were deemed to be material based on quantitative factors by ourindependent auditors, but were not deemed to be material based on qualitativefactors.  However, in order to provide the utmost transparency withrespect to our financial statements we decided to restate voluntarily ourfinancial results for the year ended December 31, 2007.

 

Subsequent to the end of thesecond quarter of 2008, we also corrected our controls and procedures.  The correction to our controls and procedureswas accomplished by hiring a new third party firm to assist in the preparationof our federal income tax returns as well as a more thorough review of the taxschedules by internal accounting staff. Additional procedures have also been added to keep track of whenemployees exercise their stock options and when and if they subsequently sellthe stock within a year of exercise.

 

Based upon the correctiveaction taken, our restatement of our 2007 financial results through the filingof a report on Form 10-K/A, and the fact that corrections were made tosubsequent financial results prior to their public disclosure, our principalexecutive officer and principal financial officer were able to conclude thatour financial statements for our year ended December 31, 2007, as includedin our report on Form 10-K, as amended, and the subsequent fiscal periodscovered by our quarterly reports on Form 10-Q, as amended, fairly presentin all material respects the financial condition, results of operations andcash flows of GlobalSCAPE.

 

As of the end of the periodcovered by this report, our principal executive officer and principal financialofficer carried out an evaluation of the effectiveness of GlobalSCAPE’s “disclosurecontrols and procedures” (as defined in the Securities Exchange Act of 1934 Rules 13a-15(e)and15d-15(e)) and concluded that the disclosure controls and procedures, ascorrected in connection with the review discussed above, were effective anddesigned to ensure that material information relating to GlobalSCAPE which isrequired to be included in our periodic Securities and Exchange Commissionfilings would be made 

 

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known to them by others within those entities. There were no changes in our internal controls over financial reporting duringthe period covered by this report that could materially affect, or arereasonably likely to materially affect, our financial reporting.

 

Therewere no changes in our internal control over financial reporting during thelast fiscal year and/or up to and including the date of this filing that webelieve materially affected, or are reasonably likely to materially affect, ourinternal control over financial reporting, except for improvements in theinternal controls to strengthen the process of calculating and reportingdeferred taxes and stock compensation expense.

 

**Management’s Report on Internal Control OverFinancial Reporting**

** **

Our managementis responsible for establishing and maintaining adequate internal control overfinancial reporting, as such term is defined in Exchange Act Rules 13a-15(f) and15d-15(f). Under the supervision and with the participation of our management,including our Chief Executive Officer and Chief Financial Officer, we conductedan evaluation of the effectiveness of our internal control over financialreporting as of December 31, 2007 based on the framework in InternalControl—Integrated Framework issued by the Committee of SponsoringOrganizations of the Treadway Commission (COSO). Based on that evaluation, ourmanagement concluded that our internal control over financial reporting waseffective as of December 31, 2007.

 

Because of itsinherent limitations, internal control over financial reporting may not preventor detect misstatements. Therefore, even those systems determined to beeffective can provide only reasonable assurance with respect to financialstatement preparation and presentation.

 

This annualreport does not include an attestation report of our registered publicaccounting firm regarding internal control over financial reporting.  Management’s report was not subject toattestation by our registered public accounting firm pursuant to temporary rules ofthe Securities and Exchange Commission that permit us to provide onlymanagement’s report in this annual report.

 

There were nochanges in our internal control over financial reporting, other than thosementioned above, during the last fiscal year and/or up to and including thedate of this filing that we believe materially affected, or are reasonablylikely to materially affect, our internal control over financial reporting.

 

None.

 

###### **Item 9B.   Other Information**

###### ** **

None.

 

# PART III

#  

## **Item 10.**      Directors, ExecutiveOfficers and Corporate Governance

## ** **

Theinformation called for by Item 10 of Form 10-K as to Directors isincorporated herein by reference to such information included in our ProxyStatement for the 2008 Annual Meeting of Stockholders to be held on June 1,2008 under the caption “Election of Directors.” Also see Item 4A of Part I of this Form 10-K.  The information called for by Item 10 of Form 10-Kas to compliance with Section 16(a) of the Exchange Act isincorporated herein by reference to such information included in our ProxyStatement for the 2008 Annual Meeting of Stockholders to be held on June 4,2008 under the caption “Executive Officers.”

 

GlobalSCAPEhas adopted a Code of Ethics that applies to all its employees, including itsPresident (its chief executive officer) and its Vice President of Finance andOperations (its chief financial officer).  GlobalSCAPE will provide a copyof its Code of Ethics to any person without charge upon written request to:

 

David L. Mann

President

GlobalSCAPE, Inc.

4500 Lockhill-Selma, Suite 150

San Antonio, Texas 78249

 

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## **Item 11.**      Executive Compensation

## ** **

Theinformation called for by Item 11 of Form 10-K is incorporated herein byreference to such information included in our Proxy Statement for the 2008Annual Meeting of Stockholders to be held on June 1, 2008, under thecaption “Executive Compensation” except for those parts under the captions “Compensation Committee Report on Executive Compensation”.

 

## **Item 12.**      Security Ownership ofCertain Beneficial Owners and Management and Related Stockholder Matters

## ** **

Theinformation called for by Item 12 of Form 10-K is incorporated herein byreference to such information included in our Proxy Statement for the 2008Annual Meeting of Stockholders to be held on June 1, 2008, under thecaption “Security Ownership of Certain Beneficial Owners and Management.”

 

## **Item 13.**      Certain Relationships andRelated Transactions, and Director Independence

## ** **

Theinformation called for by Item 13 of Form 10-K is incorporated herein byreference to such information included in our Proxy Statement for the 2008Annual Meeting of Stockholders to be held on June 1, 2008, under thecaption “Certain Relationships and Related Transactions” and “Election ofDirectors — Board Independents”.

 

## **Item 14.**      Principal Accountant Feesand Services.

## ** **

The information called forby Item 14 of Form 10-K is incorporated herein by reference to suchinformation included in our Proxy Statement for the 2008 Annual Meeting ofStockholders to be held on June 1, 2008 under the caption “PrincipalAccountant Fees and Services.”

 

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# PART IV

#  

## **Item 15.**      Exhibits, FinancialStatement Schedules

## ** **

| (a)(1)    |   | Financial Statements and Schedules                                                                                                                                                                      |
|-----------|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|      |   |                                                                                                                                                                                                    |
|      |   | The following financial statements of  GlobalSCAPE, Inc. are included in Item 8:                                                                                                                   |
|      |   |                                                                                                                                                                                                    |
|      |   | ·                                                                                                                                                                                                  | Consolidated balance sheets — December 31, 2006 and 2007 |
|      |   |                                                                                                                                                                                                    |   |
|      |   | ·                                                                                                                                                                                                  | Consolidated statements of operations — Years ended December 31, 2005, 2006 and 2007 |
|      |   |                                                                                                                                                                                                    |   |
|      |   | ·                                                                                                                                                                                                  | Consolidated statements of stockholders’ equity — Years ended December 31, 2005, 2006 and 2007 |
|      |   |                                                                                                                                                                                                    |   |
|      |   | ·                                                                                                                                                                                                  | Consolidated statements of cash flows — Years ended December 31, 2005, 2006 and 2007 |
|      |   |                                                                                                                                                                                                    |   |
|      |   | ·                                                                                                                                                                                                  | Notes to consolidated financial statements — December 31, 2007 |
|      |   |                                                                                                                                                                                                    |
| (2)  |   | Schedules not listed above have been omitted because they are not applicable or required, or the information required to be set forth therein is included in the Financial Statements or Notes thereto. |
|      |   |                                                                                                                                                                                                    |
| (3)  |   | Exhibits                                                                                                                                                                                                |

 
| **Exhibit** | ** ** | ** **                                                                                                                                                                                                                             |
|-------------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| **Number**  | ** ** | **Description**                                                                                                                                                                                                                        |
| 3.1         |       | Amended Restated Certificate of Incorporation (Filed as  Exhibit 3.1 to Form 8-Kfiled November 17, 2006).                                                                                                               |
|        |       |                                                                                                                                                                                                                                   |
| 3.2         |       | Amended and Restated Bylaws of the Company effective as of  November 13, 2006 (Filed as Exhibit 3.2 to Form 8-K filed  November 17, 2006).                                                                         |
|        |       |                                                                                                                                                                                                                                   |
| 4.1         |       | Specimen of Stock Certificate (Filed as Exhibit 4.1 to Annual  Report on Form 10-K filed April 2, 2001).                                                                                                                |
|        |       |                                                                                                                                                                                                                                   |
| 4.2         |       | Registration Rights Agreement dated November 16, 2006 by and  between GlobalSCAPE, Inc. and the Purchasers signatory thereto (filed as  Exhibit 4.1 to Form 8-K filed November 17, 2006)                      |
|        |       |                                                                                                                                                                                                                                   |
| *10.1       |       | 1998 Stock Option Plan as amended May 13, 1999 (Filed as  Exhibit 4.2 to Form 10 filed May 12, 2000).                                                                                                              |
|        |       |                                                                                                                                                                                                                                   |
| *10.2       |       | 2000 Stock Option Plan dated May 8, 2000 (Filed as  Exhibit 4.3 to Form 10 filed May 12, 2000).                                                                                                                    |
|        |       |                                                                                                                                                                                                                                   |
| *10.3       |       | Form of 1998 Stock Option Plan Rights Termination Letter  Agreement of Directors to Agree Not to Claim Any Right of Adjustment dated  February 4, 2000 (Filed as Exhibit 4.6 to Form 10 filed  May 12, 2000). |
|        |       |                                                                                                                                                                                                                                   |
| *10.4       |       | Form of 1998 Stock Option Plan Rights Termination Letter  Agreement for Employees and Consultants to Cancel Options dated  February 8, 2000 (Filed as Exhibit 4.7 to Form 10, filed  May 12, 2000).           |
|        |       |                                                                                                                                                                                                                                   |
| *10.5       |       | Form of 1998 Stock Option Plan Rights Termination Letter of  Officer to Agree Not to Claim Any Right of Adjustment dated February 8,  2000 (Filed as Exhibit 4.8 to Form 10 filed May 12, 2000).              |
|        |       |                                                                                                                                                                                                                                   |
| *10.6       |       | Form of 1998 Stock Option Plan Rights Termination Letter  Agreement of Officer to Agree Not to Exercise Options dated February 8,  2000 (Filed as Exhibit 4.9 to Form 10 filed May 12, 2000).                 |
|        |       |                                                                                                                                                                                                                                   |
| *10.7       |       | Form of 1998 Stock Option Plan Reinstatement and Adjustment  Letter for Employees dated December 19, 2000 (Filed as  Exhibit 10.17 to Annual Report on Form 10-K filed April 2,  2001).                       |
|        |       |                                                                                                                                                                                                                                   |
| *10.8       |       | Form of Release and Indemnity Agreement between  GlobalSCAPE, Inc. and Employees dated December 19, 2000 (Filed as  Exhibit 10.18 to Annual Report on Form 10-K filed April 2,  2001).                   |
|        |       |                                                                                                                                                                                                                                   |
| 10.9        |       | Commercial Lease Agreement between ACLP University Park S.A. II, L.P.  and the Company dated April 13, 1999 (Filed as Exhibit 10.1 to  Form 10 filed May 12, 2000).                                                |

 

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| *10.10 |   | Release and Indemnity Agreement between GlobalSCAPE, Inc. and  Sandra Poole-Christal dated April 2, 2001 (Filed as Exhibit 10.17  to Annual Report on Form 10-K filed April 1, 2002).                                                |
|--------|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                                                                                          |
| *10.11 |   | Form of Incentive Stock Option Agreement under  GlobalSCAPE, Inc. 2000 Stock Option Plan (Filed as Exhibit 10.21 to  Annual Report on Form 10-K filed April 1, 2002).                                                                |
|   |   |                                                                                                                                                                                                                                                          |
| *10.12 |   | Employment Agreement between GlobalSCAPE, Inc. and Charles R.  Poole dated effective July 1, 2005 (Filed as exhibit 10.1 on  Form 8-K filed June 20, 2005).                                                                               |
|   |   |                                                                                                                                                                                                                                                          |
| *10.13 |   | Incentive Stock Option Agreement between GlobalSCAPE, Inc. and  Charles R. Poole dated June 15, 2005 (Filed as Exhibit 10.2 on  Form 8-K filed June 20, 2005).                                                                       |
|   |   |                                                                                                                                                                                                                                                          |
| 10.14  |   | Securities  Purchase Agreement dated November 13, 2006 by and among  GlobalSCAPE, Inc., the Stockholders named in Schedule I thereto and the  Purchasers named therein (Filed as Exhibit 10.1 to Form 8-K filed  November 17, 2006). |
|   |   |                                                                                                                                                                                                                                                          |
| 10.15  |   | Form of  Common Stock Purchase Warrant (Filed as Exhibit 10.2 to Form 8-K  filed November 17, 2006).                                                                                                                                      |
|   |   |                                                                                                                                                                                                                                                          |
| 10.16  |   | Loan  and Security Agreement dated September 22, 2006 by and between  GlobalSCAPE, Inc. and Silicon Valley Bank (filed as Exhibit 10.1 to  Form 8-K filed September 27, 2006).                                                       |
|   |   |                                                                                                                                                                                                                                                          |
| *10.17 |   | Form of  Non-Qualified Stock Option Agreement under the GlobalSCAPE, Inc. 2000  Stock Option Plan (Filed as Exhibit 10.2 to Form 10-Q filed  November 13, 2006)                                                                      |
|   |   |                                                                                                                                                                                                                                                          |
| *10.18 |   | GlobalSCAPE, Inc.  2006 Non-Employee Directors Long-Term Equity Incentive Plan (Previously filed  as Exhibit 10.1 to Current Report on Form 8-K filed June 5,  2007).                                                                     |
|   |   |                                                                                                                                                                                                                                                          |
| *10.19 |   | Form of  Non-Statutory Stock Option Agreement under GlobalSCAPE, Inc. 2006  Non-Employee Directors Long-Term Equity Incentive Plan (Previously filed as  Exhibit 10.1 to Form 10-Q filed November 14, 2007).                         |
|   |   |                                                                                                                                                                                                                                                          |
| *10.20 |   | Form of  Employment Agreement for Executive Officers at Vice President-level and above  (Previously filed as Exhibit 10.1 to Current Report on Form 8-K  filed January 7, 2008).                                                          |
|   |   |                                                                                                                                                                                                                                                          |
| 14.1   |   | Code  of Ethics (Previously filed as Exhibit 14.1 to Form 10-K filed March 27,  2008)                                                                                                                                                                         |
|   |   |                                                                                                                                                                                                                                                          |
| 23.1   |   | Consent of PMB Helin Donovan, LLP (filed herewith).                                                                                                                                                                                                           |
|   |   |                                                                                                                                                                                                                                                          |
| 31.1   |   | Rule 13a-14(a)/15d — 14(a) Certification of David L. Mann,  President (filed herewith).                                                                                                                                                        |
|   |   |                                                                                                                                                                                                                                                          |
| 32.1   |   | Certificate pursuant to 18 U.S.C. Section 1350, as adopted  pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. (filed  herewith).                                                                                                           |

 

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* Management Compensatory Plan or Agreement

 

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**Signatures**

 

Pursuant tothe requirements of Section 13 or 15(d) of the Securities ExchangeAct of 1934, the registrant has duly caused this report to be signed on itsbehalf by the undersigned, thereunto duly authorized, in San Antonio, Texas on August 28,2008.

 
| ** ** | **GlobalSCAPE, Inc.** |
|------------|----------------------------|
|       |                       |   |
|       | By:                        | /s/  David L. Mann |
|       |                       | David  L. Mann |
|       |                       | President |

 

Pursuant to the requirements of the Securities Exchange Act of 1934, thisreport has been signed below by the following persons on behalf of theregistrant in the capacities indicated on August 28, 2008.

 
| ** ** | **Signature**         | ** ** | **Title**                                           |
|------------|-----------------------|------------|-----------------------------------------------------|
|       |                  |       |                                                |
|       | /s/ Thomas W. Brown   |       | Chairman of the Board and Director                  |
|       | Thomas W. Brown       |       |                                                |
|       |                  |       |                                                |
|       | /s/ Charles R. Poole  |       | Director                                            |
|       | Charles R. Poole      |       |                                                |
|       |                  |       |                                                |
|       | /s/ David L. Mann     |       | President and Director (Principal Executive Officer |
|       | David L. Mann         |       | and  Principal Financial Officer)                   |
|       |                  |       |                                                |
|       | /s/ Phillip M. Renfro |       | Director                                            |
|       | Phillip M. Renfro     |       |                                                |
|       |                  |       |                                                |
|       | /s/ Frank M. Morgan   |       | Director                                            |
|       | Frank M. Morgan       |       |                                                |

 

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